Capital Loss Carryover: How It Works, With the Math

Sell at a loss and the loss does not disappear at the end of the year. It offsets capital gains first, then up to $3,000 of ordinary income, and whatever is left carries forward to next year, and the year after, for as long as it takes. That is the whole rule. The details are where people leave money on the table, so here they are with the arithmetic.

This is a description of the federal rules for individuals, not tax advice. State treatment differs and is covered near the end.

The three steps, in order

The deduction is built from three sections of the Internal Revenue Code, and the order matters.

Step one: losses offset gains, without limit. Under IRC section 1211(b), an individual's capital losses are allowed to the extent of capital gains. A $40,000 loss against a $40,000 gain is a full offset, in one year, no cap.

Step two: the excess offsets ordinary income, up to $3,000. The same section allows losses beyond gains to be deducted against other income, but only up to $3,000 a year, or $1,500 for a married individual filing a separate return. Joint filers share one $3,000 limit; it does not double.

Step three: the rest carries forward. Section 1212(b) treats the unused net capital loss as a capital loss in the next year. For individuals there is no carryback and no expiry. The carryover can outlive the position, the brokerage account and the decade.

The $3,000 cap is the number people remember, and it is the least important of the three. It only applies to the slice of loss that had no gain to absorb it.

The character rule: short-term and long-term stay separate

A loss does not carry forward as a single number. It carries with its holding-period character, because the two kinds of gain are taxed differently: short-term gains at ordinary income rates, long-term gains at 0, 15 or 20 percent.

The netting on Schedule D runs in this sequence:

1. Short-term gains and losses net against each other, including any short-term carryover from last year. Result: a net short-term gain or loss.
2. Long-term gains and losses net against each other, including any long-term carryover. Result: a net long-term gain or loss.
3. If one is a gain and the other a loss, they net against each other.
4. If the result is a net loss, up to $3,000 is deducted against ordinary income. The worksheet takes that $3,000 out of the short-term loss first, then the long-term loss.
5. What remains carries forward, short-term as short-term and long-term as long-term.

Step four is the part worth knowing. Because the $3,000 comes out of the short-term side first, a long-term loss carryover tends to survive longer than a short-term one, and a long-term carryover offsets long-term gains that would only have been taxed at 15 percent anyway. A short-term carryover offsetting short-term gains is worth more per dollar. None of this changes what the loss is; it changes what it is worth.

Worked examples

Single filer, 24 percent federal bracket, 15 percent long-term rate, no state tax, to keep the arithmetic visible.

Example 1: a loss and nothing else

Year one: a $20,000 short-term loss, no gains.

• Offsets gains: $0.
• Deducts against ordinary income: $3,000. Tax value at 24 percent: $720.
• Carries forward: $17,000, short-term.

If there are no gains in later years, the carryover is used at $3,000 a year: years two through six take $15,000, year seven takes the last $2,000. Seven tax years to consume a $20,000 loss, worth $720 a year at the 24 percent rate.

Example 2: the carryover meets a gain

Same $20,000 short-term loss in year one, so $17,000 carries forward. In year two, a $12,000 long-term gain and no other activity.

• Short-term netting: $17,000 short-term loss, no short-term gains. Net short-term loss $17,000.
• Long-term netting: $12,000 gain. Net long-term gain $12,000.
• The two net: $17,000 loss against $12,000 gain. Net loss $5,000.
• Deducts against ordinary income: $3,000.
• Carries forward: $2,000, short-term.

The gain was long-term, so without the carryover it would have been taxed at 15 percent, or $1,800. The carryover absorbed it, and the $3,000 deduction against ordinary income saved another $720. The $17,000 carryover was worth $2,520 in year two, against $720 in a year with no gains. A carryover is worth the most in a year that has gains to absorb.

Example 3: mixed character in one year

Year one: a $10,000 short-term loss and a $4,000 long-term gain.

• Net short-term: $10,000 loss.
• Net long-term: $4,000 gain.
• They net: $6,000 net loss.
• Deducts against ordinary income: $3,000, taken from the short-term side.
• Carries forward: $3,000, short-term.

The $4,000 long-term gain, which would have been taxed at 15 percent, was absorbed by a short-term loss. On the worksheet that is simply the netting order. In economic terms, a short-term loss that could have offset a short-term gain taxed at 24 percent instead offset a long-term gain taxed at 15 percent. The loss is used either way; which gain it lands on depends on what else happened that year.

Example 4: married filing separately

The same $20,000 loss with no gains, but married filing separately. The ordinary-income deduction is $1,500 rather than $3,000, so $18,500 carries forward, and with no gains the loss takes thirteen years to consume rather than seven. The cap is per return, and a separate return gets half.

Why the $3,000 matters less than it looks

The $3,000 figure was set by the Revenue Act of 1978 and has never been indexed. In 1978 dollars it was a meaningful slice of a household's income; today it caps the deduction at $720 a year for someone in the 24 percent bracket. That is why a large loss with no gains to offset takes so long to use.

The carryover is only slow in years without gains. Any realized gain, short or long, is absorbed dollar for dollar. That includes capital gain distributions from mutual funds, which arrive on Form 1099-DIV and go on Schedule D whether or not anything was sold. A $50,000 carryover next to a fund that distributes $8,000 of gains each December is a $50,000 carryover that shrinks by $11,000 a year, not $3,000.

Losses that never enter the carryover

Two kinds of loss look like capital losses and are not.

A wash sale loss. If the same or a substantially identical security is bought within 30 days before or after the loss sale, section 1091 disallows the loss. It does not carry forward. Under section 1091(d) it is added to the basis of the replacement shares instead, so it comes back when those shares are sold. The wash sale rule post covers the mechanics and the one case where the loss really is gone, and the wash sale calculator prices a specific sale.

A loss inside a retirement account. Gains and losses inside an IRA, a 401(k) or a Roth are not reported and produce no deduction. A loss in a taxable account is the only kind that reaches Schedule D.

The worksheet, and the year you cannot skip

The carryover figure is not carried by memory. It is computed on the Capital Loss Carryover Worksheet in the Schedule D instructions, using the prior year's Schedule D and the prior year's taxable income. The results go on Schedule D line 6 (short-term) and line 14 (long-term) of the current year.

The worksheet has one feature that surprises people: it reduces the carryover by the loss that was allowable in the year, whether or not it was actually claimed. Skipping the $3,000 deduction in a low-income year does not bank it. There is an adjustment when taxable income before the deduction is negative, which is the case the worksheet's early lines handle, and in that situation less of the loss is treated as used. Outside that case, an unclaimed deduction is a forfeited one.

Taxpayers who did not file a Schedule D in a loss year, or who lost track of an old carryover, can reconstruct it from prior returns. The figure lives in last year's worksheet, which lives in last year's return.

State returns are not the same

The federal carryover does not automatically travel to the state return. Most states start from federal adjusted gross income and follow the federal carryover, but not all of them. New Jersey does not allow a capital loss carryover at all; a loss not used against gains in the same year is gone on the state return. Pennsylvania also allows no carryover of losses between years. Other states apply their own limits or their own ordering. The state instructions for Schedule D or its equivalent are the source for any given state.

Where the carryover comes from in practice

Most carryovers are born one of two ways. A position falls, is sold, and the loss is larger than the year's gains. Or losses are harvested on purpose, which is tax-loss harvesting: selling a position at a loss, keeping the exposure through a different security, and booking the loss against gains. Either way the carryover is the same thing, a loss that has not yet found a gain to offset.

The tax-loss harvesting calculator estimates what a given loss is worth in the current year, at a given bracket, against given realized gains. It applies the $3,000 cap and reports the remainder as carryover. It does not model future years, because the value of the carryover in future years depends on gains that have not happened.

I build Helm Terminal. Its Pro tax center reads the positions in the accounts you connect, lists the lots sitting at a loss with their holding periods, and screens each against purchases in the prior 30 days across every linked account. The harvestable-loss headline is on the free tier. None of it is tax advice, and a carryover on your return is a matter for the return, not for a dashboard.

Related reading

• Capital Gains vs Capital Losses: A Complete Tax Guide
• The Wash Sale Rule: What It Actually Disallows
• How to Find Tax-Loss Harvesting Opportunities
• Tax-Loss Harvesting Calculator
• Wash Sale Calculator