No investor wants to lose money, but it does happen. You may own stock in a firm that goes under, or you may get scammed by a Bernie Madoff.
Either way, the only thing left to do is memorize the lesson learned and make the most of the situation at tax time.
A worthless stock, typically shares in a company that went bankrupt, can be reported on the tax return as if it had been sold for nothing on Dec. 31, according to CCH Inc., a tax-information provider.
The taxpayer would use Dec. 31 to determine the stock’s holding period. If it had been held longer than a year, it would be a long-term capital loss, used to offset long-term capital gains on other investments that had been sold. Loss on a stock held for a shorter period would be a short-term loss, used to offset gains on other investments sold after being held for a year or less.
When losses exceed gains, they can be used to reduce ordinary income by as much as $3,000 a year. Losses that are bigger than that can be “carried forward” and used to reduce capital gains or income in future years.To declare a stock to be worthless you must be sure it really is, CCH says. A stock that trades rarely or for only pennies a share is not worthless. To be worthless, it must not trade at all. To take a loss on a thinly-traded or penny stock, it must be sold.
Also, the stock’s worthlessness must be connected to an identifiable event, such as a bankruptcy, CCH says.
Losses from fraudulent investment schemes are treated differently — as theft rather than investment losses. This would include Ponzi schemes like Madoff’s, which cost thousands of investors billions of dollars.