Which would offset short-term capital gains first: investment interest expense or a long term capital gain?

[steiny1227]

I have an interesting dilemma where I have an investment interest expense that exceeds my net investment income. I also have a short-term capital gain and a long term capital loss. My understanding is that LT losses first offset LT gains, then any excess can be used to offset ST gains. But my ST gains would already be offset with my ability to write off the investment interest expense.

So, which offsets the tax impact of the ST gain - is it the LT cap loss or the investment expense? Clearly I would want the LT loss to offset the ST gain, then any excess investment expense that can't be written off because it exceeds my net investment income I could carry forward to future years to offset marginal income. This maximizes my tax reductions in the future.

[Anonymous_ · Accepted solution]

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@steiny1227 wrote:

...my ST gains would already be offset with my ability to write off the investment interest expense.

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Your short-term capital gains would first be offset by your long-term capital losses, which would result in your net capital gain. It is your net capital gain that could be used to offset your investment interest expense (for which you need to itemize).

[Hal_Al]

@steiny1227 said "But my ST gains would already be offset with my ability to write off the investment interest expense"

No. That's not how it works. You are able to deduct your investment interest, as an itemized deduction, up to the amount of your net investment income.  That deduction is NOT applied directly to any other type of income. It is just a general deduction (with a cap).

Your original understanding is correct,  LT losses first offset LT gains, then any excess can be used to offset ST gains. You may then deduct any excess (but not more than $3000) against ordinary income.

Q. So, which offsets the tax impact of the ST gain - is it the LT cap loss or the investment interest? 

A.  LT capital losses

Q. Then any excess investment interest, that can't be written off because it exceeds my net investment income, I could carry forward to future years to offset future investment income? 

A. Correct

So, which offsets the tax impact of the ST gain - is it the LT cap loss or the investment expense? Clearly I would want the LT loss to offset the ST gain, then any excess investment expense that can't be written off because it exceeds my net investment income I could carry forward to future years to offset marginal income. This maximizes my tax reductions in the future.

[RobertB4444]

The long term capital losses are going to get used against the short term gains.  The investment interest expense will not be used to offset this income.  If your long term losses do not exceed your short term gains you are going to have short term regular income for this tax year.

Investment interest goes on schedule A with the mortgage interest on your home and your property taxes and other itemized deductions.  If you don't have enough deductions to itemize then you will take the standard deduction and receive no additional benefit from the investment interest.

Here is a good article from TurboTax on the investment interest deduction.

@steiny1227 

[steiny1227]

Thanks all for responding, but I think this response is right on and I was thinking about it more today before I checked these responses. I almost get to double count in a sense. The LT loss wipes out my ST gain so my net cap gain is all at LT rates (tax advantaged).

The investment interest expense is a separate form and since it goes against interest, ordinary dividends and ST gains, those ST gains (even though they were already offset by LT gains for net cap gain tax rate) still allow me to deduct more of my interest expense.

Normally I would be using that deduction to offset my ST gains taxed at ordinary/marginal rates but in this case I get to deduct and all cap gains are already tax advantaged. Win win!

[Anonymous_]

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@steiny1227 wrote:

....I almost get to double count in a sense. 

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You do not, actually, get to double count. Your Long-term capital loss offsets your short-term capital gain first, which then leaves you with a net capital gain from the short-term gain that was not offset. This net gain can then be used to offset your investment interest expense.

For example: A $10,000 long-term capital loss with a $15,000 short-term capital gain would leave a net capital gain of $5,000 which could be used to offset up to $5,000 in investment interest expenses.