What is a 'Capital Loss Carryover'
A capital loss carryover is the net amount of capital losses that aren't deductible for the current tax year but can be carried over into future tax years. Net capital losses (total capital losses minus total capital gains) can only be deducted up to a maximum of $3,000 in a given tax year. Any amounts exceeding $3,000 can be put toward offsetting capital gains in the current year or deducted in the next year.
BREAKING DOWN 'Capital Loss Carryover'Capital loss provisions can take some of the sting out of a losing investment. Investors must be careful of wash sale provisions, which prohibit repurchasing an investment within 30 days of selling it for a loss. If this occurs, the capital loss cannot be applied toward tax calculations and is instead added to the cost basis of the new position, lessening the impact of future capital gains.
Tax Loss Harvesting
Tax loss harvesting is a very important task for taxable accounts. This occurs often in December, towards the end of the taxable year. Taxable investment accounts need to look at any realized gains that were incurred during the year and find any losses to offset those gains. Doing so allows the investor to avoid paying unnecessary capital gains tax. The last day to realize a capital loss is December 31. As mentioned, if the investor wants to repurchase the same investment, he must wait 30 days or incur a wash sale. For example, suppose a taxable account currently has $10,000 of realized gains that were incurred during the calendar year and currently owns Apple stock with an unrealized loss of $9,000. If the Apple stock was sold on or prior to December 31, then the investor would only have $1,000 of realized capital gains. If it was sold on December 31, the investor would need to wait till January 30 to repurchase and avoid the wash-sale rule.
Capital Loss Carryover
Any excess capital losses can be used to offset future gains and ordinary income. Using the same example, if Apple stock had a $20,000 loss instead of $9,000 loss, the investor would be able to carry over the difference. The initial $10,000 of realized capital gain would be offset, and the investor would incur no gains for the year. In addition, $3,000 can be used to reduce ordinary income during the same calendar year. After the $10,000 for the capital gain offset and the $3,000 for the ordinary income offset, the investor would have $7,000 of capital losses to carryover for future years. This can be used to offset any future gains up to $7,000 or $3,000 in offset ordinary income every year until depleted.
When investing using a taxable account, it is very important to keep track of capital loss carryover. This information can be found on Schedule D of the 1040 individual tax return. Unnecessary capital gains tax can easily be avoided by be conscientious of an investor's current tax status.