Capital Loss Carryover

  

Not every investor can be successful. In fact, most are not. Some 98% under-perform their relevant index fund comp each year. That’s just a nice way of saying more people are bad at trading than people who are good at it.

Although every trade is not a zero-sum game, some people lose a lot of money every year. Even though the IRS takes as much as it can, it does give losing investors a bit of a break every year in the form of being able to deduct their losses.

Whether your company loses money or you lose your shorts investing, you can write off a certain amount of these losses on your taxes. The law says you can have a capital loss of your Schedule D of up to $3,000 if you’re married. If you’re single, you can file a $1,500 loss.

So, what’s the point of this? Well, some people lose more than $3,000 each year.

Let’s just say that you lose $7,000, and you’re married. To compensate, the IRS allows you to carryover up to $3,000 per year, meaning you can carryover $3,000 in Year 1, $3,000 in Year 2, and $1,000 in Year 3. Those losses can also be deducted from taxable gains the following year.

So if in Year 2 you earned $5,000 trading, you can deduct that carryover loss of $3,000, and only have to pay taxes on the difference...or $2,000.

There’s no limit to how many times you can carryover losses. But remember, the goal is to actually make money.

So, don’t act like this provision is a good thing. Treat it more like a mulligan.

Related or Semi-related Video

Finance: What is Tax Loss Carry-Forward?328 Views

00:00

finance a la shmoop what is a tax loss carry forward

00:06

all right well feel bad about losing money in your business last year

00:11

well this law will help make you feel a whole lot better you had been going [guy sinking in bath]

00:15

along swimmingly making ten million bucks a year in your hot tub pimp out

00:20

biz where you are the premier provider of turbo Jets neon lights spa caddies [fancy hot tub]

00:26

massaging floor inserts and literal wet bars but then Kanye launched a competing [alcoholic beverages]

00:32

business called hot and wet by Kanye and the next year well you lost six million [Hot and Wet by Kanye building]

00:37

bucks well on your 10 million of taxable profits in a year you had been paying 30

00:43

percent tax or 3 million bucks in taxes to show net income or earnings of 7

00:48

million dollars well you lost 6 million dollars last year so you paid no tax and

00:54

no the government doesn't rebate you 30% in taxes like they don't write you a

01:00

check for 30% of 6 million or 1.8 million years that you lose money

01:06

running your business but they do allow you to carry forward that loss into the

01:12

next year or the next or the next usually up to 7 years total in most

01:17

cases so that tax loss of 6 million bucks then comes in handy the following

01:22

year when Kanye's hot tubs are found to be administering second-degree burns to [Hot and Wet news paper]

01:27

its buyers and you once again make 10 million dollars in taxable profits only

01:32

this time you have 6 million dollars of tax loss carry forward that gets first

01:38

subtracted from the 10 million before you have to even think about taxes so in

01:43

this case you pay taxes on just 4 million dollars or 30% of 4 million or

01:48

just 1.2 million in taxes to net 2.8 million in net income essentially the

01:54

government splits your losses and lets you take the taxable part of losses into

02:00

the future so that the lows are not so low and well as far as Kanye is

02:04

concerned the highs are not so high [Kanye in court]

Up Next

Finance: What is a Realized Gain or Loss?
2 Views

When you realize a gain or loss, it means that you turn an investment into cash. Thrilling, we know.

Find other enlightening terms in Shmoop Finance Genius Bar(f)