First Person: How a Capital Loss Carryover Works for Stock Losses

Being a stock broker in the late 1990s, I quickly learned all about stock losses as they related to the deductions that you can take on your taxes. What I ran into quite a bit with my clients was a misunderstanding of the limits on how much you can write off in capital losses in one year. The rest is then categorized as a capital loss carryover.

A capital loss carryover with stock losses occurs when you have more in losses than the government will allow you to deduct. Currently, you are only able to deduct a maximum of $3,000 as a capital loss for stocks. So, if you have $10,000 in stock losses, you can only deduct $3,000 and the rest will "carry over" into future years.

In essence, you never really lose your ability to take advantage your capital losses, but you may have to wait a couple of years to take full advantage. This scenario can get further complicated when you start adding capital gains into the mix.

The easiest way to think of your capital losses from stocks is via this equation:

Capital Gains - Capital Losses = Total Capital Gains to Pay Taxes on or Total Capital Losses Available for Deduction and/or Carryover

For example, if you have $10,000 in capital gains for the year and $6,000 in capital losses for the year, you will actually have to pay taxes on the remaining $4,000. On the flip side, if you have capital gains of only $4,000 and capital losses of $10,000 then you are left with a negative amount of $4,000. The first $3,000 of that can be deducted on your tax return and the remaining $1,000 will then carry over to the next tax year.

If you have any capital gains in the next year you can use the remaining $1,000 to offset those gains. Again, you never lose the ability to use your capital losses, you just have to wait on them sometimes.

At the end of any year you should make a point to sit down with your financial adviser and go over all of the capital gains and capital losses you accumulated in the stock market that year. This will allow you to come up with a game plan and make any adjustments needed before you file your taxes. Worst case scenario, you will have some money to deduct this year and more to come in the form of a capital loss carryover.

More from this contributor:
What You Need to Know About a Roth 401(k)
Retirement Investment Planning in Your 30s
Explaining the P/E Ratio in Stocks