Using this years capital losses as an offset to traditional IRA gains

[Guest dmg1541]

I have experienced large capital losses this year in my stock trading accounts. I'm trying to find something positive that can come out of this! Can I convert the long term gains in my traditional SEP IRAs to a Roth IRA and offset the gains that I would have, against these non IRA, mostly short term, capital losses? My goal would be to convert with no tax due. I am 54 with goal of not tapping the conversion until at least age 62.

Also, will I have a problem establishing this conversion if my AGI for 2000 is below 0 due to these losses? I understand that I would not be able to contribute new money to a Roth, but will this keep me from converting traditional, deductible IRA money? Thank you for any help and encouragement!

[John G]

Your question has some confusing assertions which makes me believe you do not understand the mechanics.

First, you can write off investment losses against investment gains, but, if losses exceed gains you can reduce other income by a maximum of $3,000 per year. The remaining losses (if any) must be carried forward to future years.

Second, you can not cross cancel gains/losses inside an IRA with those outside the IRA. Gains and losses inside the IRA have no meaningful tax ramifications until you start taking funds out with a traditional IRA... or never if you have a ROTH since distributions are not taxed with Roths.

Third, you may qualify for a Roth conversion if you qualify on the basis of earned income and not exceeding the income caps. The income ceiling is based upon AGI with some adjustments. The conversion itself is not part of your income for purposes of determining if you qualify for a conversion.

Finally, you are not likely to have income below zero because the limitation on investment losses is $3,000 and you would still have your earned income, interest, dividends, etc.

This is the first really horrible investment year in a long time. It hurts. The lessons are both painful and often expensive. Sometimes you can even get back to back bad years, but eventually the growth of the economy and the success of capitalism makes investing in the future both attractive and worthwile. The positive thing is that you live in a great country and the crappy periods tend to be short lived.

[Guest dmg1541]

I hope I didn't create confusion by trying to be too brief. If I do a Roth conversion from my traditional IRAs I will have capital gains. Will this years capital losses from other investments be able to be used to reduce the tax liability that would ordinarily be due on this Roth conversion from a traditional IRA?

You raised another question for me. I understand the 3000 against ordinary income and carryover for future years against ordinary income, but can a capital loss be carried forward against next years capital gains? Or even better, is there any way I could go back against last years capital gains? Thank you in advance.

[John G]

Roth conversion creates a tax liability, but it is unrelated to long/short capital gains. Your net capital gains can only offset some of the conversion tax liability to the extent that you have investment losses greater than gains and this is capped at $3,000. You do not treat Roth conversion as a capital gain that can be offset directly by any capital losses.

Capital losses in excess of capital gains + 3,000 are rolled into the future. Then the same rules of offsetting apply in each subsequent year until you exhaust the losses. Therefore if you have 60,000 in losses in this year and no capital gains in subsequent years, it will take you 20 years to work off the year 2000 loses.

I would hope that one of the sharp accountants on this site would add to my comments. I don't think you have any creative options but I am not 100% positive.

One final piece of advice. Do not undertake significant restructuring of your assets like the Roth conversion without getting informed professional help in your community. Conversions is not a good area for "do-it-yourself" effort. There are two many ways to make mistakes, miss deadlines or make wrong assumptions. Let your tax advisor play devils advocate and crunch the numbers.

[Guest dmg1541]

Thanks for your response. I really would like to find a creative solution for my stupidity.

I would appreciate one clarification. You said, "if you have 60,000 of losses in this year and no capital gains in subsequent years, it will take you 20 years to work off the year 2000 losses."

Using your example, my question is, if I have 60,000 of gains next year would this years losses carryforward and zero them out? Thanks again.

[John G]

Losses from this year that role forward will "cross cancel" a like amount of gain next year. But if next years gains fall are less than your rollover losses, then you can take a 3k loss and roll the remaining losses into 2002.