Dan Flikkema: ‘I recently met a casualty of the market. He was temporarily rich selling Celgene stock (CELG) for a big capital gain in 2000. His ‘advisor’ then invested all the proceeds in another company which promptly went bankrupt in 2001. He now has a tax bill of $40,000 on his 2000 gain, no cash left, and a capital loss of $150,000 which he apparently can only use to offset $3,000 of his income each year for the next 50 years. Individuals cannot carry back capital losses to offset a previous years income the way corporations can. Does that seem fair to you? Do you know of anything this person could do? Woody Allen was right when he said that a stockbroker is someone who invests your money until it is gone. Apparently you can lose all your money and then some.’

☞ Ah. If we could only turn back time and shake this fellow by the lapels. What was he thinking? But we can’t, unless we fly very, very, very fast, and that’s that.

As to the taxes, one obvious thing to say is that, no, it doesn’t seem fair not to allow us to ‘carry back’ our capital losses as well as carry them forward, so that his 2001 loss could be offset against his 2000 gain. But we can’t, no matter how fast we can fly, and that’s that.

On the other hand, it may not be 50 years before your acquaintance realizes some capital gains against which to offset some or all of what, after the first year, will be his $147,000 ‘capital loss carryforward’ (and what, after the second year, will be his $144,000 carryforward, and then his $141,000 carryforward – each year using $3,000 of it to lower his taxable income).

Indeed, for him, the risks of the stock market will, in a sense, be more worth taking than for the average guy, because for him, the first $140,000 or so of gains, should he happen to realize any, will be ‘tax-free.’ (This is not to say he should take imprudent risks. There’s always the chance, through bad luck or bad choices, he could just keep growing, rather than shrinking, his capital-loss carryforward.)

Two other thoughts:

  • He could marry a woman with lots of appreciated securities.  Even without his tax-loss, this recommends itself if it would require divestiture of a current spouse.  I believe his tax-loss carryforward could then be applied to her capital gains, if she choose to realize some and they were filing jointly.  (I’m not a tax attorney or matchmaker, however, so this should be further researched before purchase of a ring.)
  • Does your acquaintance have wealthy parents who are already each giving him $10,000 a year in order to shrink their taxable estate?  (This is the most any one person can give another without triggering reporting requirements and the gift tax.)  If so, they might be able to give him that $20,000 a year not in cash but in appreciated securities, if they happen to have some.  His “cost basis” for the shares would be whatever theirs had been, so if each $20,000 chunk had, say, a cost basis of just $4,500, he’d have a further $15,500 capital gain each year against which to offset the loss, and the whole thing would be used up in just eight years or so.
  • That might or might not put him ahead of the game, depending on what happens with the estate tax and the treatment of appreciated securities at death.  Sat this went on for eight years and then, tragically, both parents died.  The size of their taxable estate would be unchanged whether they had given him cash or stock, so the gift tax would not be affected.  But if they had given him cash, he wouldn’t have used up the rest of his loss carryforward . . . and yet, under current law, the appreciated securities in his parents estate would pass to him free of capital gains tax (because he could elect to have the “basis” of their shares “step up” to the price as of their death).  So he would have used up his loss carryforward for . . . what, exactly?  Nothing, if I’m thinking this through clearly (and I know I can rely on any number of you to set me straight if I am not).  So as with most fancy tax maneuvers, I wouldn’t rush into this one, either.

Mainly, though, I repeat – what was he thinking?


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