Personal Finance

How to Profit From Losses

When it comes to investing in stocks and mutual funds, yes, it's true -- you can lose money. But there's a very real silver lining to that cloud: tax losses, which can make a big difference corporations and individuals alike. Being tax-smart in your investing doesn't just help you make the best of a bad situation; it can also be very profitable.

Think back a couple of years to the banking crisis, when big names such as Wachovia, Lehman Brothers, and Washington Mutual disappeared. At one point, Citigroup (NYSE: C ) was all set to buy Wachovia's banking assets for $1 per share, when Wells Fargo (NYSE: WFC ) swooped in and offered $7 per share for the whole company! Was Wells Fargo crazy? Not at all. It had its eye on Wachovia's tax losses. It was eager to offset tens of billions of dollars of its taxable income with tens of billions of dollars of Wachovia losses.

The issue also came up when Liberty Capital (Nasdaq: LCAPA ) made its rescue loan to Sirius XM Radio (Nasdaq: SIRI ) back in 2009. At the time, some commentators speculated that one of Liberty Capital's motivations for taking a 40% stake was the huge amount of net operating losses on Sirius's books. The IRS rules for using net operating losses are quite complicated, but they basically boil down to this: Even if Liberty wants to buy out the rest of Sirius , it would have to wait until at least three years after its 2009 deal, or else it wouldn't be able to use Sirius's net operating losses. With many investors figuring that Sirius will be profitable enough to eventually make use of those losses itself, the issue isn't as important here as it was in the Wells Fargo/Wachovia deal.

Shrink your taxes

When it comes to tax losses , we individual investors face very similar rules. Imagine that you're sitting on $10,000 of losses on a stock. If you have $5,000 in capital gains this year, you can offset them entirely with your losses if you sell . You might have owed $750 to $1,500 or more on those gains (depending on how long you held the shares), but now you'll owe zero. See? The loss hurt when it happened, but at least you're getting some benefit out of it.

Meanwhile, you still have $5,000 of losses left, having had only $5,000 in gains to offset. Well, you can now offset up to $3,000 of your taxable income with your losses! Voila -- another big savings, of up to $1,000 or so. And you're still not done. The remaining $2,000 in losses can be carried forward to the next tax year, where they can shrink your tax bill again.

Uncle Sam does taketh away, but he also giveth. Take a little time to read up on tax-smart strategies and you can save a lot of money. A brief visit to our rich Tax Center can really pay off.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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