Losses in Retirement Accounts

I’m back from vacation! Actually I was back a couple of weeks ago, but I was a bit lazy about getting back to The Two Legged Stool. But I’m here now.

I thought I would restart by responding to a couple of comments. First Paul. In his comment to the May 15 post, Anonymous (aka Paul) raises a couple of issues. One of them deals with losses inside a nondeductible IRA. Paul wonders if you can deduct up to $3,000 of losses that you have incurred inside your nondeductible Individual Retirement Account.

You can’t directly deduct losses that occur inside your IRA. Instead, you indirectly get the tax benefit of your losses by having that much less to distribute during your retirement years and therefore reporting that much less taxable income. Remember, everything that goes on inside your IRA is generally irrelevant for income tax purposes. You don’t (yet) pay taxes on interest or dividends; you don’t pay taxes on any capital gains; and you don’t get to deduct any capital losses.

There is one possibility for deducting a tax loss in a nondeductible IRA, but it’s very unusual and I hope it never happens to you. Here it is. When you are at the point of taking out the last dollars from all your traditional IRAs, deductible and nondeductible, if you still have any nondeductible contributions left that you haven’t yet deducted (also sometimes called “basis”), and your losses have been so great over your lifetime that your basis actually exceeds the amount remaining in your IRA, then you can take a tax loss for the difference. I hope this doesn’t happen to you! Picture how unusual it is. It could only happen at the waning years of your life when you’re ready to completely deplete your IRA. (It could also happen sooner if you convert all your traditional IRAs to Roth IRAs.) And your losses would have had to have been pretty bad to exceed all your income and gains during your lifetime. And you have to look at all your traditional IRAs in the aggregate when figuring whether you have a net loss or not. So overall it’s pretty unusual to realize an actual net deductible loss on your IRA.

It's good to be back.