Claiming losses from the disposal of investments
Claiming losses from the disposal of investments
If you have realised a loss from the disposal of investments, such as shares, you must treat the loss in the correct manner.
Losses are either capital losses or revenue losses and will be categorised according to whether the relevant income has been classed as capital gains or ordinary (business) income.
The taxation of your investments in prior years is relevant when working out the treatment of the loss in the current year. If there has been minimal change in the nature of your investment activity, it is likely that the same tax treatment applies in the current year.
For example, your activities may be consistent with that of a shareholder in previous years and the current year. Such activities include purchasing shares for the purpose of earning income from dividends. In a previous year you may have sold shares and claimed the 50% capital gains tax discount. If you have realised a loss in the current year, you would be expected to claim this as a capital loss.
If you are a shareholder and you have not disposed of the investment, any loss in value of the investment is not a capital loss at this time and is not considered for tax purposes until it is realised (that is, until you dispose of the asset).
We issued a Taxpayer Alert on 21 May 2009 as an 'early warning' describing an arrangement whereby taxpayers seek to re-characterise their shareholding status from that of a long-term capital investor to a trader in shares.
For more information, see TA 2009/12 Re-characterising capital losses as revenue losses.
Losses arising from the disposal of shares (or other assets) held for investment purposes are capital losses.
A capital loss cannot be offset against income from other sources but must be offset against capital gains and may be carried forward to offset against future capital gains.
In the 2008-09 financial year, Abbey decided to invest in the stock market for the first time and purchased 1,000 shares in Lorca Enterprises at $25 per share.
In the 2009-10 financial year, she sold 200 shares for $35 each and she included the capital gain when working out her net capital gain for her 2008 tax return.
In the 2010-11 financial year, she didn't buy or sell any shares and received dividends for the remaining 800 shares.
In the 2011-12 financial year, Abbey decided to sell all her shares. The market price when she sold was $13 per share.
Abbey has realised a capital loss. Her previous behaviour indicates that she held the shares for investment purposes and was not in the business of share trading.
Can I classify my loss as a revenue loss?
A revenue loss is a loss arising from carrying on a business for the purpose of earning income.
If you are a share trader rather than a shareholder, you can classify your loss as a revenue loss.
In very general terms:
- a shareholder is someone who holds shares for the purpose of earning income from dividends and similar receipts
- a share trader is someone who carries out business activities for the purpose of earning income from buying and selling shares.
To determine if your activities make you a shareholder or a share trader, you need to look at certain elements, such as:
- the nature, regularity, volume and repetition of the share activity
- the amount of capital employed
- the extent to which there is organisation in a business-like manner, through the keeping of books or records and the use of a system.
Am I a share trader?
To be classed as a share trader, you may be asked to provide evidence that demonstrates you are carrying on a business of share trading - for example:
- the purchase of shares on a regular basis through a regular or routine method
- a trading plan
- use of share trading techniques in managing your share acquisitions, such as decisions based on thorough analysis of relevant market information
- a contingency plan in the event of a major shift in the market.
Losses incurred in the business of share trading are treated the same as any other losses from business.
Alison is an electrical engineer. After seeing a television program, she decides to become involved in share trading activities.
Alison sets up an office in one of the rooms in her house. She has a computer and access to the internet.
She has $100,000 of her own funds available to purchase shares and, in addition, she has access to a $50,000 borrowing facility through her bank.
Alison conducts daily analysis and assessment of developments in equity markets. The resources she uses include financial newspapers, investment magazines and stock market reports. Her objective is to identify stocks that will increase in value in the short term to enable her to sell at a profit after holding them for a brief period.
In the year ended 30 June 2012, Alison conducted 60 share transactions: 35 buying and 25 selling. The average buying transaction involved 500 shares and the average cost was $1,000. The average selling transaction involved 750 shares and the average selling price was $1,800. All the transactions were conducted through stockbroking facilities on the internet. The average time that Alison held shares before selling them was twelve weeks. Alison's activities resulted in a loss of $5,000 after expenses.
Alison's activities show all the factors that would be expected from a person carrying on a business. Her share trading operation demonstrates a profit making intention even though a loss has resulted. Alison's activities are regular and repetitive, and they are organised in a business-like manner. The volume of shares turned over is high and she has injected a large amount of capital into the operation.
Trading or business plan
A trading or business plan should include some or all of the following aspects:
- an analysis of each potential investment
- analysis of the current market and various segments of the market
- research of when or where a profit may arise
- the basis of decisions made as to when to hold or sell shares.
If you reclassify your activities, we may ask you to provide evidence that demonstrates there has been a change in the nature of your activities or that you have declared your income incorrectly in the past.
If we review your tax returns and it is found that losses have been incorrectly claimed, penalties may apply.
Jack is a manager. He is also a shareholder who has reported consistently high dividend income in recent years as his portfolio has grown in size. In 2012, he claimed a loss for his share trading activities of $75,500 at question 15 (Net income or loss from business) on his tax return.
A review of Jack's returns found that in the previous year he made a large gain on the sale of shares of around $176,000 that was reported at the capital gains tax question. After applying the capital gains tax discount, his net capital gain was reduced to $63,600. In 2009 and 2010 he did not report any gains or losses.
This behaviour is indicative of an investor who purchased shares with the intention of earning income from dividends.
Jack needs to demonstrate that his current year activities involve carrying on a business as a share trader rather than as an investor, especially in light of his reporting history. If he determines that he is a share trader, Jack may have to review whether he was a share trader in prior years or determine when his position changed.
If you have reclassified your activities, there may be capital gains tax (CGT) or other implications.
Reclassifying from investor to trader
If your activities change from investor to trader, your investment changes from a CGT asset to trading stock. This can trigger CGT event K4.
Reclassifying from trader to investor
If your activities change from trader to investor, your investments are no longer trading stock.
If you stop holding an item as trading stock but still own it, you are treated as if:
- just before it stopped being trading stock you sold it to someone else (at arm's length and in the ordinary course of business) for its cost
- you had immediately bought it back for the same amount.
It is important to keep proper records to verify your claim. You should keep records of purchases and sales of your shares.
If you have a capital loss but no capital gain in the current year, you must carry this loss forward until you have a capital gain to offset it against.
If we audit you and we find that you have incorrectly claimed losses, penalties may apply.
Peter is an administrative officer. In 2012, he reported a loss from futures trading of $68,000 at Net income or loss from business, question 15. His return was selected for review and he was asked to provide documentary evidence relating to his investment activities.
Peter provided a summary of monthly gains and losses for the current and prior income years as well as activity statements from his investment broker. He provided no other information. His prior year returns showed capital gains using the other method, as all trades occurred within 12 months. Capital losses had been claimed against the gains.
As Peter was unable to satisfactorily demonstrate that he was carrying on an investment business, his deduction was disallowed. His losses were considered to be capital losses which must be carried forward and offset against future capital gains.
If we review your tax returns and we find that you have incorrectly claimed losses, penalties may apply.
If you are still unsure if your activities would be classed as share trading, you should apply for a private ruling.
Last Modified: Thursday, 28 June 2012