Yesterday wasn’t a pretty day on Wall Street. The Dow Jones industrial average plunged nearly 3,000 points sending stocks tumbling to their worst single-day losses since the Black Monday crash of 1987. The markets were mainly reacting to the coronavirus (COVID-19) pandemic.

COVID-19 is the official name for the infectious disease caused by the most recently discovered coronavirus. According to the World Health Organization, as of March 17, 2020, there are 173,344 confirmed cases of COVID-19 in 144 territories and countries. According to Johns Hopkins, the United States has 4,661 confirmed cases.

It’s easy to look at the numbers and get nervous. Combine those nerves with doomsday headlines, and you could end up in a full-blown panic attack about all of the money that you might have “lost” over the past few weeks. Only you probably didn’t. When the markets go down, and values fall, most investors don’t actually lose real money. What they have is an unrealized loss, sometimes called a paper loss.

Markets go up and down: it’s the nature of the beast. And while we hope they go up more than they go down, statistically, there are going to be dips. And sometimes those dips look a bit more like craters – like this week. But every time the market goes down, that doesn’t equal a real or realized loss. Similarly, when the market goes back up, that doesn’t equal a real or realized gain. To realize a gain or a loss for accounting purposes, you have to do something with the asset. Typically, that means that you sell it or otherwise dispose of it. The same is true for tax purposes.

Let’s consider stock. Even if you were to sell your shares of stock today, just because they were worth less this morning than when you went to bed last night doesn’t necessarily mean you’ll have a realized loss. For tax and accounting purposes, gains and losses aren’t determined moment to moment but instead how much your cost basis has gone up or down from the time you acquired the asset to the disposition of the asset. So what’s basis?

Basis is, at its most simple, the cost that you pay for assets. The price is sometimes referred to as “cost basis” because you can make adjustments to basis over time.

When it comes to stocks, your basis is generally equal to the original cost that you paid for the shares; if you participate in a dividend reinvestment plan (DRIP) or similar plan, your basis is your original cost plus the cost of each subsequent purchase/reinvestment, subject to additional adjustments for splits and the like. 

When you dispose of the asset at sale or transfer, it’s referred to as a taxable event. The value of the stock or asset at that moment (the taxable event) is what matters. Nothing else matters. It doesn’t matter if the stock went up and down a hundred times in the middle. Your realized gain or loss is figured by calculating the difference from purchase, plus adjustments, to sale. All that stuff in the middle is, for tax and accounting purposes, just a bunch of squiggly lines. The ups and downs may mess with your head – and your blood pressure – a little bit, but it doesn’t hit your wallet until you’re ready to cash out.

That seems to be the sticking point for many taxpayers: You want all of these ups and downs to mean something, but they don’t. At least not for tax purposes.

That’s why investors sometimes suggest that you hold onto assets during periods of volatility: if and when the value goes back up, there’s no tax other consequence to you. But when you sell or other dispose of the asset (disposal includes gifting, donating or otherwise transferring the asset out of your control), you have a taxable event.

At tax time, you’ll report your realized gains and losses on Schedule D, Capital Gains and Losses (downloads as a PDF), and then transfer the results to the reconciliation page on your federal form 1040. Here’s how that shakes out:

  • If realized gains exceed realized losses, you have a taxable capital gain; the rate will be dependent on whether those gains or losses are long-term or short-term.
  • If you hold the shares for one year or less and then sell or otherwise dispose of the stock, your capital gain is called short-term. Short term gains are generally taxed at your ordinary-income tax rate.
  • If you hold the shares for more than one year before you get rid of them, your capital gain is called long-term. For 2020, the long term capital gains rates of regularly traded stock are 0%, 15%, or 20% depending on your taxable income.
  • If realized losses exceed realized gains, you have a capital loss for tax purposes. You can claim up to $3,000 (or $1,500 if you are married filing separately) of capital losses in any tax year. The amount of your loss offsets your taxable income for the tax year. If your losses exceed those limits, you can carry the loss forward to later years subject to limitations.

But if there’s no taxable event? You don’t file Schedule D if you don’t have any realized gains or losses. That’s true even if the value of your shares went up and down: if there’s no sale or disposition, there’s nothing to report.

Here’s a quick example: Let’s say you buy stock for $100. Then, the value of that stock climbs to $250 due to market conditions and not any additional investment on your part.

  • You continue to hold the stock. Result? Unrealized gain. No capital gain.
  • The stock takes a hit and falls to $85. Unrealized loss. No capital loss.
  • The stock takes another hit and falls to $25. You continue to hold the stock. Unrealized loss. No capital loss.
  • The stock climbs back up to $75. You finally get rid of it. You have a capital loss of $25 ($75 selling price – $100 basis). You take the loss at the basis, not the high price (the $250 high value is meaningless for purposes of capital gain or loss) nor at the low price (the $25 low value is similarly useless for purposes of capital gain or loss).

Capital gains and losses can be confusing. But let’s not make them more complicated than they need to be. In a volatile market, your portfolio may go up and down, but unless you’re trading or selling off, you’re not actually realizing those losses for tax purposes.

One quick note: since the news has focused on the stock market, this article largely applies to your plain-vanilla publicly held stocks like Amazon and Nike. Exceptions and special rules may apply to small business stocks and assets held in retirement accounts, as well as adjustments related to calls, puts, and straddles. There are also special rates and limits for artwork and collectibles, as well as real estate – for example, you may not claim a capital loss for a personal residence. Those are beyond the scope of this piece, so if you have questions or if something isn’t clear, be sure to check with your tax professional.

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Kelly Erb is a tax attorney, tax writer and podcaster.

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