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Why You Can't Write Off an IRA's Stock Loss

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10-27-2007

The Wall Street Journal by Kelly Greene

I have a self-directed IRA, which has stocks that are worth less than their original purchase price. I want to withdraw my required minimum distribution in shares based on their present price and move these shares to my regular brokerage account. This will satisfy my annual required withdrawal. Can I then sell these equities, from my brokerage account, based on their original purchase price when they were in my IRA, and claim a tax loss?

--Jerome Patterson, St. Louis

No, you can't write off an IRA withdrawal of shares that have fallen inside your individual retirement account, because an IRA is a "tax-free environment." The cost basis for your shares is their value on the date you withdraw them from your IRA, says Hugh Bromma, chief executive of Entrust Group Inc. in Oakland, Calif., which administers self-directed IRAs.

Let's say you bought 10 shares of stock for $10 apiece in your IRA, and they fell in value to $2 a share. At that point, you have to take your required minimum distribution, which also happens to be $20. To satisfy the withdrawal requirement, you could withdraw the shares, at which point you would be taxed on their $20 value. Going forward, your starting point, or basis, for determining a gain or loss on selling the shares would be $2 a share, says Ed Slott, an IRA consultant in Rockville Centre, N.Y.

The holding period for capital gains also starts when you withdraw the shares from your IRA, he says. Let's say the stock increased in value after you withdrew it from your IRA, and then you sold it. If the sale took place within a year of withdrawing the stock from your IRA, you would have to pay higher tax on a short-term capital gain. If you sold the appreciated stock after a year, your profit would be considered a long-term capital gain and you would be taxed at a lower rate.

The only way you would get to write off a loss on your tax return would be this scenario: You withdraw the stock from your IRA, it falls further in value, and then you sell it.

There are two ways you could simplify your record-keeping and tax returns: First, you could hold your stock in a regular IRA, rather than a self-directed one. Self-directed IRAs are typically used for investments other than stocks and bonds, such as real estate, businesses or private placements. Depending on how such IRAs are set up and the fees they charge, they can wind up costing you more than the type most people are more familiar with, custodial IRAs administered by a brokerage house or bank. Second, if you're planning to sell the stock anyway, doing so before you withdraw it from your IRA could streamline the paperwork and reporting to the Internal Revenue Service.