Deducting IRA Losses

Posted by Lee Reams Sr. on

A question that frequently arises is “can IRA losses be deducted?” The answer to that question is yes, but only under certain very limited circumstances.

One of the advantages of an IRA is tax-free accumulation so when there is a gain within the IRA it is not currently taxed.  The downside is that if there is a loss that loss is generally not currently deductible.  However, there is a circumstance where a loss may be allowed, as described below. 

IRAs can include both deductible and non-deductible contributions and only non-deductible contributions create an IRA basis.  Losses can only be deducted to the extent an IRA has a basis and then only when the IRA has been totally distributed and amounts received are less than the individual’s unrecovered basis in the account.  (Notice 89-25, Q&A 7, 1989-1 CB 662)

When determining if an IRA has been totally distributed, all IRA accounts of an individual are treated as one, so all of an individual’s IRA accounts must be distributed before a loss can be taken.  Where an IRA owner is married, the IRAs of each spouse are treated separately and losses are determined separately.  Thus for example if one spouse distributed all of his or her IRA accounts which resulted in a deductible loss, the other spouse need not distribute all of his or her IRAs for the loss to become deductible. 

Example - Loss on a Traditional IRA Distribution Recognized - A mutual fund IRA, funded with 6 annual nondeductible contributions of $2,000, has a basis of $12,000 ($2,000 x 6). It is the taxpayer’s only IRA. The mutual fund lost money, and the account contained only $10,000.  The account owner withdrew the entire amount and will recognize a $2,000 loss in the withdrawal year.

The IRA loss recognition rule applies separately to each kind of IRA. Thus, to recognize a loss in a Traditional IRA, all amounts must be distributed from all Traditional IRAs (but not Roth IRAs) owned by the taxpayer, and to recognize a loss in a Roth IRA, all amounts must be distributed from all of the Roth IRAs owned by the taxpayer (but not traditional IRAs).

Where a taxpayer only made deductible contributions to a Traditional IRA, no unrecovered basis exists and thus no loss can exist.

An IRA loss is deducted as a miscellaneous itemized deduction, subject to the 2%-of-adjusted-gross-income limit that applies to certain miscellaneous itemized deductions on Schedule A, Form 1040 (IRS Pub. 529)