How Do You Account For Losses in an IRA?
As you watch your investments closely, you may observe certain holdings are declining in value and wonder whether their losses can be deducted as losses in tax-exempt accounts.
Losses in IRAs and similar accounts may only be tax-deductible under very specific conditions, making this topic one that should be carefully thought through before taking any steps.
Determining Losses
Investments may experience losses over time, which is to be expected with any investment and something investors should be prepared for when opening tax-advantaged accounts.
However, should an IRA loss arise it can be difficult to recognize and deduct it from your income tax return due to limitations placed upon miscellaneous itemized deductions subject to the 2%-of-adjusted-gross-income limit on Schedule A of your tax return.
Alternate Minimum Tax can erode any benefit derived from IRA losses that you claim as part of your taxes, so plan any IRA losses so they fall during years in which you won’t likely be subject to it and maximize any claim for tax deductions.
Maintaining Records
Investors with an IRA should monitor the basis in their shares to help determine future gains and losses (with the exception of Roth IRAs owned after age 59-1/2, when beneficiaries receive a step-up in basis, eliminating capital gains on lifetime appreciation). Traditional IRA accounts that hold nondeductible contributions require keeping an up-to-date version of form 8606 every time funds are withdrawn from an account; for precious metals or real estate that’s subject to prohibited transaction rules (like gold bullion), however, you should create an inventory list and appraisals as necessary.
Losses from an Individual Retirement Account, or IRA, may be claimed on Schedule A as miscellaneous itemized deductions but cannot exceed 2% of adjusted gross income. This limit excludes certain expenses related to investments such as tax preparation fees and some investment services.
Determining Tax Deductions
Maintaining accurate records of the cost and sale of investments helps you determine your losses accurately. By subtracting original cost from sales proceeds, this figure can be used for tax purposes. There are various online calculators that can assist in this endeavor and assist in estimating any possible impact that losses might have on your taxes.
Attributing losses in an IRA depends on whether or not you itemize deductions. To qualify as miscellaneous itemized deductions, at least 2 percent of your adjusted gross income in addition to your standard deduction amount must be miscellaneous deductions.
Before initiating a tax loss harvesting strategy in your IRA or 401(k), it’s wise to consult a financial advisor. An expert can review your entire financial picture and suggest strategies that could optimize long-term tax position while helping identify losses through sales of investments, potentially leading to tax deductions.
Rebalancing Your Portfolio
Rebalancing your portfolio is one of the key steps of investing. Rebalancing helps ensure that the ratio of stocks to bonds fits with your financial goals while at the same time mitigating risk by diversifying among asset classes, economic sectors and geographic regions.
Unbalanced portfolios can become unbalanced over time if certain investments outshone others. Rebalancing is an effective way to restore balance to your portfolio by selling off overperforming investments and adding funds into under-performing ones.
Investors can avoid capital gains taxes by making contributions with new cash instead of taking distributions from existing investments to purchase assets needed to rebalance their portfolios, known as tax-loss harvesting, rather than taking distributions. Tax-loss harvesting involves regularly monitoring one’s portfolio for losses and selling them when their value decreases – an approach known as “loss harvesting”.
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