Claim Tax Benefits from Your Worthless Securities

?? Understanding worthless securities can help you turn a financial loss into a tax advantage. Here, we will explore what they are, how they're treated by the IRS, and how you can leverage them to minimize your tax burden.

What we’ll cover:

What are worthless securities?

How worthless securities can benefit you

Limitations and considerations

What are worthless securities?

A worthless security is a stock, bond, or other investment that, due to a specific event, holds no current or future value. This "identifiable event" could be:

• Termination of business operations:?The company ceases operations and dissolves, leaving no assets to repay investors.
• Government Seizure:?The government confiscates the assets of the company due to legal trouble.

How worthless securities can benefit you

When a security becomes worthless, you can claim a tax loss to offset gains and potentially reduce your taxable income.

If your security is considered a capital asset, you can claim a capital loss in the year your security becomes worthless that can:

• Offset Capital Gains:?If you sell profitable investments generating capital gains, 100% of your worthless security losses can?be used to offset your capital gains, potentially saving you thousands of dollars.
• Reduce Ordinary Income:?If you have more losses than capital gains in the year your securities become worthless, you can deduct the excess, up to $3,000, against your ordinary income like salaries, interest and dividends.

Although less common, certain securities are not considered capital assets. If your security is not considered a capital asset, you can claim an ordinary loss in the year your security becomes worthless that can reduce your ordinary income without limitation. Examples of securities that can generate ordinary losses are:

• Stock of an affiliated corporation (greater than 80% ownership)
• Stock/securities issued or held by a small business investment company
• Small business (Section 1244) stock

Limitations and considerations

In order to deduct a loss for a worthless stock, you must prove that:

• The security had value at the end of the preceding tax year and became completely worthless during the tax year the loss is claimed
• The worthlessness was established by an identifiable event showing that there is a remote or improbable chance that there will be a recovery on the investment

You should keep?purchase receipts, brokerage statements, bankruptcy notices?and any other documentation that may support your security’s worthlessness.

You purchased stock in ABC Corporation for $10,000 in 2023. In May 2024, ABC Company permanently ceases operations. On your 2024 tax return, you will report a capital loss of $10,000. Assuming no other gains or losses, $3,000 will be deducted as an ordinary loss and you will have a $7,000 capital loss carry-forward.

???If you have any questions about worthless securities, reach out to your tax team at?[email protected]

???Not a Gelt client yet? Schedule a call to learn more?https://www.joingelt.com/schedule-a-call

This information is for educational purposes only and does not constitute financial advice. Consult a qualified professional before making any investment decisions.

???References

Sales and Other Dispositions of Assets