Unrealized Loss Definition - Investopedia

An unrealized loss is a "paper" loss that results from holding an asset that has decreased in price, but not yet selling it and realizing the loss. Investing InvestingEssentials WhatIsanUnrealizedLoss? Anunrealizedlossisa"paper"lossthatresultsfromholdinganassetthathasdecreasedinprice,butnotyetsellingitandrealizingtheloss.Aninvestormayprefertoletalossgounrealizedinthehopethattheassetwilleventuallyrecoverinprice,therebyatleastbreakingevenorpostingamarginalprofit.Fortaxpurposes,alossneedstoberealizedbeforeitcanbeusedtooffsetcapitalgains. Unrealizedgainsandlossescanbecontrastedwithrealizedgainsandlosses. KeyTakeaways Unrealizedlossesresultfromassetsthathavedecreasedinvaluebutwhichhavenotyetbeensold.Unrealizedlossesturnintorealizedlosseswhenanassetthathaslostvalueisultimatelysold.Dependingonthetypeofsecurity,unrealizedlossesmayormaynothaveaneffectonafirm'saccounting.Fortaxpurposes,capitallossesareonlyrecognizediftheyarerealizedlosses. 1:22 WhatAreUnrealizedGainsAndLosses? UnderstandingUnrealizedLosses Anunrealizedlossstemsfromadeclineinvalueonatransactionthathasnotyetbeencompleted.Theentityorinvestorwouldnotincurthelossunlesstheychosetoclosethedealortransactionwhileitisstillinthisstate.Forinstance,whilethesharesintheaboveexampleremainunsold,thelosshasnottakeneffect.Itisonlyaftertheassetsaretransferreddoesthatlossbecomesubstantiated.Waitingfortheinvestmenttorecoupthosedeclinescouldresultintheunrealizedlossbeingerased,orbecomingaprofit. Anunrealizedlosscanbecalculatedforaperiodoftime.Thismayspanfromthedatetheassetswereacquiredtotheirmostrecentmarketvalue.Anunrealizedlosscanalsobecalculatedforspecificperiodstocomparewhenthesharessawdeclinesthatbroughttheirvaluebelowanearliervaluation. Thedecisiontosellanunprofitableasset,whichturns anunrealizedlossintoarealizedloss,maybeachoicetopreventcontinuederosionoftheshareholder’soverallportfolio.Suchachoicemightbemadeifthereisnoperceivedpossibilityofthesharesrecovering.Thesaleoftheassetsisanattempttorecoupaportionoftheinitialinvestmentsinceitmaybeunlikelythatthestockwillreturntoitsearliervalue.Ifaportfolioismorediversified,thismaymitigatetheimpactiftheunrealizedgainsfromotherassetsexceed theaccumulatedunrealizedlosses. Thepsychologicalimpactofholdingunrealizedlossesisoftendifferentthanthatofholdinggains,asinvestorshopefora rebound intheunderlyingassettorecoupsomeoralloftheirpaperlosses,andmayeventakeonadditionalriskinhopesofdoingso.Thisisknownasthedispositioneffect,anextensionofthebehavioraleconomicsconceptoflossaversion. UnrealizedLossesvs.UnrealizedGains Thecomplementofanunrealizedlossisan unrealizedgain.Thistypeofincreaseoccurswhenaninvestorholdsontoawinninginvestment,suchasastockthathasriseninvaluesincethepositionwasopened.Similartoanunrealizedloss,againonlybecomesrealizedoncethepositionisclosedforaprofit. UnrealizedLossesinAccounting Whileunrealizedlossesaretheoretical,theymaybesubjecttodifferenttypesoftreatmentdependingonthetypeofsecurity.Securitiesthatareheldtomaturityhavenoneteffectonafirm'sfinancesandare,therefore,notrecordedinitsfinancialstatements.Thefirmmaydecidetoincludeafootnotementioningtheminthestatements.Tradingsecurities,however,arerecordedinabalancesheetorincomestatementattheirfairvalue.Thisisprimarilybecausetheirvaluecanincreaseordecreaseafirm'sprofitsorlosses.Thus,unrealizedlossescanhaveadirectimpactonafirm'searningspershare.Buttheireffectonafirm'scashflowisneutral.Securitiesthatareavailableforsalearealsorecordedinafirm'sfinancialstatementatfairvalueasassets. TaxConsequences Callingunrealizedlosses"paper"lossesimpliesthatthelossisonly"onpaper."Thisisespeciallyimportantfromataxperspectiveas,ingeneral, capitalgains aretaxedonlywhentheyarerealized,andyoucanonlydeduct capitallosses onyourtaxreturnafterthey'rerealizedtoo. Ifyouhavebothcapitalgainsandlossesinthesameyear,youcanuseyourcapitallossestoreduceyourtaxburdenbyoffsettingyourcapitalgains.Acapitallosscanalsobeusedtoreducethetaxburdenof futurecapitalgains.Evenifyoudon'thavecapitalgains,youcanuseacapitallosstooffsetordinaryincomeuptotheallowedamount. ExampleofanUnrealizedLoss Assume,forexample,thataninvestorpurchased1,000sharesofWidgetCo.at$10,anditsubsequentlytradeddowntoalowof$6.Theinvestorwouldhaveanunrealizedlossof$4,000atthispoint.Ifthestocksubsequentlyralliesto$8,atwhichpointtheinvestorsellsit,therealizedlosswouldbe$2,000. Fortaxpurposes,theunrealizedlossof$4,000isoflittleimmediatesignificance,sinceitismerelya"paper"ortheoreticalloss;whatmattersistherealizedlossof$2,000. CompareAccounts AdvertiserDisclosure × TheoffersthatappearinthistablearefrompartnershipsfromwhichInvestopediareceivescompensation.Thiscompensationmayimpacthowandwherelistingsappear.Investopediadoesnotincludealloffersavailableinthemarketplace. Provider Name Description RelatedTerms WhatIsTax-LossHarvesting? Tax-lossharvestingisthesellingofsecuritiesatalossinordertooffsettheamountofcapitalgainstaxdueonotherinvestments. more TheCapitalGainsTaxandHowtoCalculateIt Acapitalgainstaxisalevyontheprofitthataninvestormakesfromthesaleofaninvestmentsuchasstockshares.Here'showtocalculateit. more PaperProfit(PaperLoss)Definition Apaperprofit(orloss)isanunrealizedcapitalgain(orloss)inaninvestment,orthedifferencebetweenthepurchasepriceandthecurrentprice. more WhatIsaRealizedLoss? Realizedlossoccurswhenanassetwhichwaspurchasedatalevelreferredtoascostorbookvalueisthendisbursedforavaluebelowitsbookvalue. more UnrealizedGain Anunrealizedgainisapotentialprofitthatexistsonpaperresultingfromaninvestmentthathasyettobesoldforcash. more GainDefinition Againisanincreaseinthevalueofanassetorproperty. more PartnerLinks RelatedArticles Deductions&Credits CapitalLossesandTax Stocks WhatAreUnrealizedGainsandLosses? IncomeTax CapitalGainsTax101 Taxes HowtoAvoidViolatingWashSaleRulesWhenRealizingTaxLosses InvestingEssentials Howarerealizedprofitsdifferentfromunrealizedorso-called"paper"profits? Bitcoin HowCryptocurrencyIsTaxedintheU.S.