How to Write Off Stock Market Losses from Your Taxes

Through stock market investments, it is possible to establish independent wealth over the long term. In some cases, however, your investments may fail to perform due to recession, poor research, or an emergency situation that forces you to liquidate at an inopportune moment. For relief, you may write off stock market losses from your taxable income. To do so, you must become familiar with the correct investment terminology and paperwork.

Realized Capital Losses

You can deduct realized capital losses away from your taxable income. Realized capital losses occur when you sell shares of stock at a loss. For the 2010 tax year, you may deduct $3,000 in total realized capital losses away from your taxable income. Losses that exceed the $3,000 limit can be carried forward and deducted in subsequent years.

Tax Paperwork

At tax season, your brokerage will prepare 1099 forms and submit the information to both the Internal Revenue Service and your address on record. You will reconcile the 1099 forms against your monthly brokerage statements to summarize your trading activity for the year. With this data, you can complete Schedule D to report your realized capital losses to the IRS.

Cost Basis and Sales Proceeds

When calculating realized capital losses, you will include brokerage commissions within your cost basis and sales proceeds. For example, you may buy and sell stocks through an online brokerage at $7 per trade. Through this online brokerage, you go on to buy 100 shares of Retail Company Z at $60 each. The cost basis of this transaction would then be $6,007 (100 x $60 = $6,000 + $7 brokerage commissions = $6,007). Later that year, Retail Company Z declines to $50, before you sell off the position. Proceeds from the sale would then be $4,9993 (100 x $50 = $5,000 - $7 brokerage commissions = $4,993). You could then deduct $1,014 in Retail Company Z stock market losses away from your taxable income.

Wash Sales

Be advised that the IRS prohibits wash sales - for the sole purpose of taking a stock market loss. A wash sale occurs when you sell off an investment at a loss, and immediately buy back the same asset within the next 30 days.

Investment Strategy

When investing money, your ultimate goal is to secure the highest returns for the applicable level of risk that you wish to take on. A proper balance of risk versus reward, however, does not always translate into a minimal tax bill. In terms of trading stocks, you should not hold onto a losing investment simply to increase a potential tax write off.

How to Write Off Stock Market Losses from Your Taxes, Sources:

IRS: Capital Gains and Losses

IRS: 10 Facts About Capital Gains and Losses

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