Help a Reader: Off-Setting Stock Gains with Losses

Here's a question a reader left here recently:

I purchased WAMU stocks in the mid-1980's and allowed my shares to accumulate. I signed up to re-invest my stocks dividends. My shareholdings got to over 1,000 shares (total of shares I held and in the reinvestment program). At over $40 per share I was sitting on over $40,000 investment. Then WAMU filed bankruptcy under Chapter 11. I have 2008 gains from a different company's stocks. Can I offset these two? What documents do I need to support the losses? I still have statements from the company that managed my re-investment portfolio. I will appreciate any help.

What I think he's saying is this:

1. His shares went up dramatically but he did not realize the gains (he did not sell any shares.)

2. But he did have some gains (reinvestment) that were lost when the company went bankrupt.

3. Not sure why he's asking about 2008 gains. Maybe he's saying he'd like current losses to go back and offset gains that he had a year ago?

Personally, this is why I use a CPA to do my taxes. But I thought maybe someone out there could make sense of this mess.

Comments

[Eugene Krabs]

I don't know the exact answer, and I agree this is where you want to turn to a professional. In the meantime, I found this helpful:

http://www.bogleheads.org/wiki/Tax_loss_harvesting

[Michael Goode]

IANAL and IANACPA, so take this with a grain of salt. WAMU (now trading as WAMUQ), while bankrupt, is still trading and thus not substantially worthless. Therefore, you can only deduct your loss in the year you actually sell WAMUQ stock. So you cannot deduct it from gains in 2008. If you sell it this year you can deduct it from 2009 gains. If you have more losses than gains then you can deduct a maximum of $3,000 per year from your ordinary income.

Get JK Lasser's Your Income Tax.

As an aside, for those of us who aren't wage slaves and thus have complicated taxes, it pays to understand your taxes. I have educated CPAs about odd corners of tax law that significantly affected my taxes.

[Michael Goode]

I do have a CPA, but I know almost as much as he does, so that I can catch his mistakes and know what I need to report to him.

[Apex]

@Michael,

I too have had to educate CPA's on things outside the ordinary. I was told that I couldn't do something that I was sure I could. I found the IRS docs to support it and showed him he was wrong.

CPA's are not as expert as everyone gives them credit for.

As to this issue its actually quite simple. When you realize the loss (sell your shares, and as Micahel said you will have to sell the WAMUQ to realize these loses) you will have capital losses based on your cost basis (what you actually paid).

What you paid minus what you sold them for is your capital loss.

The fact that these shares were once worth as much as 40K is not relevant and doesn't factor in at all. If over the course of the past 20 years you purchased shares at a cost to you of lets say $5000 (initial purchase plus re-invested dividends), then that is your cost basis. Your only deductible loss is that which lost over and above what you paid. Not that which you lost because of not selling at the high. I understand the desire to say you lost 40K and you did in the sense that you could have sold them for 40K. But if you did you would have paid taxes on the gain. You never paid those taxes on the gain because you never sold so there is nothing to deduct based on the unrealized gain.

So if hypothetically you have put 5K of your own money in and sold the WAMUQ for lets say $10 (I don't know what the WAMUQ trades for but I am guessing its very close to zer). Then in that case you would have $4,990 in realized losses that you could deduct. If you had gains in other stocks (that you also realized by selling, not just holding), then you could deduct those losses against those gains.

You mention 2008 gains but thats last years taxes. If you paid taxes on gains in 2008 there is nothing you can do to offset those. Those are paid and done. If you have 2009 capital gains you can offset those, otherwise all you can do is take the $3K maximum capital gain loss per year until you have used up the losses as Michael alluded to.

The key is realize gains and realized losses both in the same tax year.

paper gains and paper losses don't mean anything for tax purposes.

And your documented proof is your purchase slips for all of your WAMU stock. If you were hoping to deduct the 40K hypothetical gain that you never realized thats probably why you were wondering about how to document that. You can't and it doesn't matter because the 40K is not deductible.

[Jim]

Apex is right, the key is to figure how much you actually paid for the WAMU less what the WAMUQ is now worth. That is the loss you can write off. Looks like WAMUQ is at 0.23 a share today so 1000 shares are about $230 (assuming you can easily sell for that I'm not sure since it is 'over the counter' now).

[CPA Abroad]

I am a CPA (about 75/25 corporate to individual work), and if the shares are not substantially worthless you need to sell them before claiming the loss. If you did not sell them in 2008 your 2008 gains do you no good. You need 2009 gains at this point to offset the loss, assuming you dispose of them in 2009. Like Michael said, after offsetting gains and losses to zero, you can only deduct an additional $3k from ordinary income per year. There is no expiration of the losses, so you can take 3k a year until you exhaust them.

Also, as a public service announcement, and adding to Michael's other point, while I am a CPA, through the twist of fate of living abroad on assignment for a Big 4 firm, said Big 4 firm does my taxes. I found between 2-3k of tax savings by just reviewing my return before filing it. These were due to flat out errors. NEVER, EVER sign your taxes without reviewing them. YOU are responsible for what gets filed. Feel free to trust your accountant, but do not trust blindly.

[Rick]

I'm not sure why you would need to use a CPA. All you have to do is fill out Schedule D and follow the directions. Or use a program such as TurboTax. It will fill out the forms for you. It's not that hard. I do recommend the advice given earlier and actually try to understand your taxes. This helps you #1 be able to do your own taxes without paying someone to do so, and #2 understand tax law so you can do things (legally) to reduce your tax burden.

But yes, like the others have said, to write off your losses against your gains, you have to:
-- actually sell the stocks (both the losing stock and the winning stock)
-- sell them in the year for which you're filing your taxes
-- base your losses against the purchase price
-- write off losses against your gains. If you have additional losses, you can write off up to $3000 each year against "ordinary income". Additional losses can be carried over to the following year.

[Tom]

I too am a CPA, and agree with all above. I just want to emphasize what APEX said. Your basis is what you paid for the shares you purchased, including the shares you purchased by reinvesting the dividends. Your loss will be your basis, less your net proceeds (sale price less commissions). Make sure to include those reinvested dividends in your basis.

[cmadler]

Tom's last sentance is an important one. Since this reader was reinvesting dividends over 20 years, that may be a significant amount. So the loss you can claim is the amount of your money you put in, PLUS the value of the dividends, MINUS your net proceeds.

[Matt]

FMF, you misread and number 2 is moot. He has gains from another company that he needs to offset with his losses from WAMU. Everyone is getting far too technical here and the advice is no longer sound.

It has no bearing that the stock was worth $40,000 at its peak, it is the Adjusted Base Cost that comes into play.

I.e. say the book value of the shares owned were in reality $25,000, then now you sell them for whatever they are getting today, so let's say $0.30 per share, so $300.

$25,000 - $300 = a loss of $24,700 that you can apply against your gains.

You should have been filing your divident income each and every year or the IRS will be wanting to have an interesting conversation with you. Dividends don't really come into play here at all, so I am not sure why people are getting hung up on that. It just confuses the issue at hand.

[Apex]

To be clear to whoever is trying to get advice here ... Matt is very wrong. #2 definately does matter. Those reinvested dividends are now part of the cost basis. Taxes should have already been paid on them and those values are now important in calculating the cost basis. Not sure what he means by book value but the only value that matters is cost basis, not book value. Everyone else here is giving the same answer and it is correct. Do not pay any attention to what Matt has written, it's just not right.

[Matt]

Bah, whatever Apex, reread please....how does one achieve gains when the investment has gone kaput? Dividends should be recorded as income the year they are received. Pretty common knowledge there. If you are not sure what book value is, please take a basic accounting course.
Thanks for caring.

[Jim]

Thee dividends were used to buy the stock. So the value of those dividends in crease the cost basis paid. The contribution from those dividends over a long period is important.

For example, I bought 1 share of WAMU 20 years ago for $5. Then over 20 years my 5% yield dividend increased my holdings to 2 shares. Those dividends might have been worth $20 total over that 20 year period when WAMU went from $5 to peak at $40. So if you ignore the dividend cost in the basis then you're ignoring most of the cost basis.

[Jim]

Matt the reason the dividends matter at al lhere is that they were buying Wamu shares via dividend reinvestment. FMF refered to 'gains' from the dividends but I assume he meant in the sense of income rather than capital gains to record during the sale.

[Matt]

Overcomplicating things, however I did take a closer look at Schedule D and one can tell that the US Tax Code is burdensome and onerous. Sad. I am sure the Dems will only make it worse.

[Jim]

Nobody said tax code was simplistic. The dividend reinvestment does make the cost basis more complicated to figure. But if you ignore dividend reinvestment then you're leaving money on the table as far as figuring your cost.

[Apex]

@Matt

Here's the deal Matt. When you come on a board, declare everyone else is wrong and you are right you better darn well be right.

I find it funny that you continue to vehemently declare your correctness when everyone continues to point out where you are wrong.

Are you so sure that everyone reading and posting here is wrong and only you are correct? This is some pretty basic tax stuff here, not too complicated, with multiple CPA's posting on it and you suggest all of us don't know what we are talking about and just trying to make things more complicated than they are?

You absolutely cannot ignore the dividends here because they were used to purchase more shares. In that sense they are part of the new cost basis. They could in fact be the majority part of the cost basis.

Perhaps you didn't fully understand what people were saying about factoring dividends into the cost basis because they were already reported for tax purposes in the years recieved as I tried to state in my earlier response to your post but then that money was used to purchase more shares. Many people forget about or don't realize that when you purchase more shares with dividend money those dollars become part of your cost basis and can be deducted against the gains otherwise you will pay tax on them as income when received and again as gains when you sell.

If you consider factoring those dividends into your cost basis to be over complicating the issue then you could certainly fail to add them to your tax basis to keep things simple. The advice given here is attempting to be correct not simple. Simple is only good when its accurate. Ignoring the re-invested dividends in the cost basis would not be accurate.

[CW]

As a professional trader I have to point out the flaw in your investment strategy, which i am sure you are now aware of... stocks don't climb forever, at some point a profit should be realized or sooner or later you'll realize a loss. Every company has a life cycle and therefore there is no company which is a buy and hold forever.

Personally, I feel a long-term investor should only leave trade profits invested in companies they own - there is no reason to risk a great deal of your investment capital over the long-term. A wise move in my opinion would be to build a stock portfolio on profits only, thereby creating a zero risk investment.

Just my two cents.

[Tim]

is this really that difficult?

cost of stock A when you purchased minus sale value = net gain or loss

cost of stock B when you purchased minus sale value = net gain or loss

If loss for stock A and gain for Stock B add the two and get your net gain or loss. If net loss, you can deduct $3k per year and carry over any additional losses to the following years indefinitely to offset future gains. If gain, then pay taxes on your gain

dividends: you pay taxes on dividends when you get them. if you reinvest the dividends into shares and they appreciate when you sell those shares, then you have a gain and pay taxes on those gains. if the shares decrease in value, then you have a loss.

book value doesn't mean a thing, because you haven't realized a gain or a loss until you buy and sell shares.

if he holds wamu stock when it filed for bankruptcy, which means that he should now hold wamuq stock, that still isn't a loss until he sells the stock. the value of the stock doesn't matter until he sells the stock.

documents: your investment company should have provided you with cost basis documents when you bought and sold shares. i use a simple spreadsheet so i can keep track of stock lots, etc. Normally, when you sell shares, it is first in first out (FIFO) unless you specify lots you want to sell. This is important if you want to select taking a loss, taking a long term capital gain, not taking as much of a gain, not taking much of a loss, etc.