Capital Loss Deduction

Capital losses first offset capital gains dollar-for-dollar. Excess losses can offset up to $3,000/year of ordinary income.

Loss Offset Rules

Step 1: Short-term losses offset short-term gains
Step 2: Long-term losses offset long-term gains
Step 3: Net short-term loss offsets net long-term gain (or vice versa)
Step 4: Net loss up to $3,000 offsets ordinary income
Step 5: Remaining loss carries forward indefinitely

Carryforward

Unused capital losses carry forward indefinitely and maintain their character (short-term or long-term). They are reported on Schedule D each year until fully used.

This is particularly relevant for §1256 box spread strategies, where the borrowing cost is a capital loss that offsets gains on Schedule D without itemizing.

Sources

• IRS Topic No. 409 – Capital Gains and Losses
• IRS Schedule D Instructions
• IRS Publication 550 – Capital Losses