Can a Capital Loss Carryover to the Next Year?

Here's how tax losses carry forward to future years.

Woman figuring out if her tax loss can be used next year.
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Although investors hope for capital gains, taking a capital loss is not necessarily the worst thing. The loss can be used on your tax return, and if it is not all used up in the current year, the tax loss can carry forward to the following years. There are three main components to understanding how capital losses can carry over to future tax years.

Offsetting Capital Gains

Let's assume you have a $10,000 capital loss, and a $10,000 capital gain. These will offset each other on your tax return. In this situation, you would have no tax loss remaining to carry over to the next year. You cannot choose to pay tax on the gain this year and rollover the loss to the following year. Capital losses must first be used to offset any capital gains in the current tax year.

Offsetting Ordinary Income

If you have a $10,000 capital loss and no gains, you can use $3,000 of the capital loss to deduct against ordinary income. For example, if your ordinary income is $50,000, you will get to deduct the $3,000 of capital loss and only pay tax on $47,000 of ordinary income. The remaining $7,000 of loss can be carried forward to the following year. If you're married but file separate returns, each spouse can't deduct more than $1,500 against ordinary income.

Carrying Losses Over

Let's assume the stock market has a bad year. You sell a stock or mutual fund and realize a $20,000 loss. You have no capital gains that year. First, you use $3,000 of the loss to offset ordinary income. The remaining $17,000 will carry over to the following year. Next year, if you have $5,000 of capital gain, you can use $5,000 of your remaining loss carryover to offset this gain, $3,000 to deduct against ordinary income, and the remaining $9,000 will then carry forward to the next tax year. If you had no realized capital gains for the following three years, the remaining $9,000 tax loss would be used up, $3,000 at a time, over those three years.

When to Realize a Capital Loss

Sometimes it makes sense to realize a capital loss on purpose so you can use it to offset capital gains and ordinary income in future years. This concept is referred to as tax-loss harvesting and is used by savvy investors. Here's an overview of how it works. 

Ordinary income is taxed at a higher tax rate than capital gains, so realizing a loss and carrying your capital loss forward where $3,000 of it can offset ordinary income each year may mean a lower tax bill for you. If you're retired, having less ordinary income can also mean less of your Social Security benefits are taxable for the year.

The effectiveness of tax loss harvesting is a largely debated subject in academic circles. Still, most agree that certain people will see more benefits than others based on their tax situation. Don't enter into a tax loss harvesting strategy without first talking to a tax professional.

Keeping Track of Carryover Amounts

Capital gains and losses, and tax loss carry-forwards are reported on IRS forms Schedule D, and for real estate or business investments, on Form 8949. When reported correctly, these forms will help you keep track of any capital loss carryover.

The gain and loss rules discussed in this article apply primarily to publicly traded investments such as stocks, bonds, mutual funds, and in some cases, real estate holdings. There are additional rules that apply when you dig into short-term gains vs. long-term gains, whether deductions can be used to offset state income, how real estate gains are treated when you must recapture depreciation, and how you account for passive losses and gains. 

The 2018 tax year saw a lot of changes based on President Trump's tax plan. More than in recent years, consider seeking the advice of a tax professional, especially if your taxes are complicated.