Investing and Taxes: How to Report Investment Gains—and Losses

The stock market is being a real jerk right now. So what does it mean for investing and taxes?

It really started on October 10. Over just a couple days, the Dow Jones Industrial Average fell around 1200 points. While the following week saw gains of about half that loss, we’ve seen a gradually falling average since then. October 2018 is shaping up to be the Dow’s worst month since 2015, and this has a lot of people scared that we’re not out of the woods yet.

Now, if you’re a seasoned investor, you know market stumbles are just that—stumbles. The Dow Jones and S&P 500 are measurements of groups of publicly traded companies, with individual and sector outliers that can pull the average up or down. But historically, the stock market trends upward over time.

Your individual holdings may not.

Understanding Investing and Taxes

If you’ve made an investment before, you’ve probably also lost money at some point. But did you know the IRS allows you to report your losses on your taxes?

Consider this post your worst-case scenario guide. Nobody wants to lose money investing, but if you have, here’s what you need to know so that you get the maximum benefit for your return—and create your own silver lining.

Investing and Taxes: The Basics of Reporting an Investment Loss

Let’s start out with a few definitions, courtesy of the IRS.

Capital Assets – Property such as your home or car, as well as investment property, such as stocks and bonds.

Capital Gains/Losses – The difference between your basis and the amount you get when you sell an asset. Your basis is usually what you paid for the asset.

Now, let’s get into the nitty-gritty details of how reporting investment gains—and those heartbreaking losses—works.

Reporting a Capital Gain

Reporting a gain is easy, because in all cases you need report it as income on your tax return. Let’s break it down:

If you buy a rental property for $200,000 and sell it for $250,000, you’ve realized a capital gain of $50,000. If you buy 20 shares of stock at $50 dollars in May and sell them for $55 dollars in June, you’ve made $100 on that investment. Even a car, which typically depreciates, could be sold for a price higher than the price you paid for it. In that case, the IRS considers that difference a capital gain.

The only thing to keep in mind is that you must have sold the asset in question to realize the gain and be required to report it on your taxes. If you haven’t sold those 20 shares of stock, it doesn’t matter if they go up 1000%—you still don’t have to report them!

Reporting a Capital Loss

Reporting a loss can seem more complicated, but it’s not really all that hard to break down.

If you own $15,000 worth of shares in a tech company and sell for $10,000, you’ve realized a loss of $5,000. If the market where your rental property is located dips and the property’s value instead drops from $200,000 to $175,000, it would be considered a recognized loss of $25,000.

As a reminder, this loss is only reportable once you’ve sold the asset. Until you actually sell that rental property, that $25,000 is considered an unrecognized loss—so you can’t report it yet.

Short-Term Gains vs. Long Term Gains

So we’ve covered the main differences between reporting a capital gain or loss, but that’s not the whole story. The length of time during which you hold an asset also matters when you file.

There are two categories: short-term and long-term. And these apply to both capital gains and capital losses. For a recognized loss to count as a short-term loss, it must have been held for a year (to the day) or less. If you hold that same asset for any longer (a year and a day upward), it will be considered a long-term loss. Short-term gains are taxed as ordinary income, and long-term capital gains are taxed at a lower rate (which we’ve written a bit more about on our blog before).

Investing and Taxes: Tallying Your Gains and Losses

A benefit to losing money on an asset is that you can subtract your capital losses from your capital gains. The IRS distinguishes between short-term and long-term gains and losses, so here’s how go about reporting gains and losses. Meet Kyle.

1. Net your short-term losses and short-term gains. Let’s say Kyle’s short-term gains amounted to $5,000 through the sale of a small rental property, but he also experienced short-term losses amounting to $10,000 from an unfortunate stock turn. Kyle’s net short-term capital losses totaled $5,000.
2. Net your long-term losses and long-term gains. Kyle had a collector car that has increased in value significantly, and he finally cashed in—realizing a long-term gain of $15,000. Unfortunately, he had a couple of riskier securities investments that didn’t pan out, and he lost $5,000. Kyle’s net long-term capital gains totaled $10,000.
3. Take your two totals and net them together to find your total taxable gain. Kyle now nets his short-term loss of $5,000 with his long-term gain of $10,000. He reports his final net, $5,000, as his taxable gain.

Even Losers Can Be Winners

In Kyle’s case, he was able to reduce his total taxable gains from $20,000 to only $5,000 by reporting his losses. But that’s not the only place he can report it.

If, instead of a final net gain of $5,000, Kyle had suffered a final net loss of $5,000, he can deduct that from other types of income. The catch? He can only deduct up to $3,000 of it this year. However, next year, Kyle can deduct the remaining $2,000 against his income. In fact, if Kyle suffers a loss of $50,000, he can keep deducting $3,000 from that balance each and every year until all his losses have been accounted for.

As far as losing goes, that’s not too bad!

Ride the Market to Tax Savings

Nobody wants to lose money on an investment. But when you do, the IRS is on your side. By understanding the basics of how your gains and losses are taxed, you can make smarter choices about how you manage your assets over time.

In this tumultuous market, we hope you always come out on top. But if you don’t, there are plenty of advantages waiting for you—wherever you may land.