Capital loss tax harvesting and state taxes?

[The 585]

This year I harvested approximately $10k in long-term capital losses. I'm currently working overseas so all of my wage income is excluded under the FEIE, but my understanding is that I can still to a roth conversion of up to the standard deduction ($12,400), PLUS the max $3,000 of capital losses, minus any dividends or interest income, and it should be tax free federally.

But will this roth conversion be tax free to the state as well? Do the individual states also acknowledge long term capital losses as well as carry over into future years? I'm a Virginia resident. Thanks in advance!

[terran]

It depends on the state.

The capital loss deduction reduces AGI. It looks like Virginia starts it's calculations with federal AGI, then adds and subtracts some things, neither of which include losses at first glance. The only way to be sure will be to fill out a Virginia return, but just from a quick look, I would say Virginia probably reduces your taxable income by the same amount as the federal capital loss by starting with federal AGI.

Looking at form 760, if your federal AGI plus additions and minus subtractions (Virginia AGI) is under $11,950, then you don't owe tax, so you could consider targeting $11,950+$3000 = $14,950 instead of $12,400+$3000 = $15,400 of Roth conversions

If your income is above that amount then you get a $930/person exemption  and a standard deduction, which according to the form 760 instructions for line 11 is $4500 for single filers. So you'll get total deductions of $5430 plus $930 for any additional dependents, so you'll probably end up paying some tax on that conversion if you max out the federal tax free amounts.

Basically, it looks like there's a bit of cliff once you go over $11,950 of Virginia AGI, so if go just $1 over you end up with taxable income of $6521 on which you'll owe $197. If you max the federal standard deduction you'll have $6970 of Virginia taxable income on which you'll owe $219. So you can make an extra $12,400 - $11,950 = $450 conversion and pay $219, a 48.67% marginal tax rate. I would stay under $11,950 of Virginia AGI unless you want to go far over until the Virginia marginal tax rate evens out.

All of this is based only on a cursory look at the Virginia tax forms and instructions, so you should take a closer look, and probably fill them out with your expected numbers to get a more definite answer.

I'm also not familiar with how FEIE interacts with federal AGI, so that could effect whether it's taxable in Virginia.

[The 585]

Terran, thanks so much, this is a fantastic explanation for something I find incredibly complicated. But yes, I agree it will be best for me to fill out a return myself to play around with the numbers, but I agree targeting the $11,950+$3000 = $14,950 AGI appears to be better. That would include both taxable brokerage dividends and savings account interest in that calculation, correct? So hypothetically if I have $4500 in dividends and $500 in savings account interest, I should only convert up to $14,950-$5000 = $9,950? And would this "use up" all $3000 of the tax loss?

Another question since I've never tax-loss harvested, if you only "use" $2500 of the $3000 in tax losses for the year, do you lose the other $500? Or does my $10k in losses then carry into 4 years rather than 3? Also how are these carry overs "tracked"?

[seattlecyclone]

Another question since I've never tax-loss harvested, if you only "use" $2500 of the $3000 in tax losses for the year, do you lose the other $500? Or does my $10k in losses then carry into 4 years rather than 3? Also how are these carry overs "tracked"?

You'll calculate your net gains/losses on Schedule D. You can see in Line 21 of this form that you get to claim the smaller of your actual loss or $3,000 ($1,500 if married filing separately). Save that Schedule D for next year. You'll use the Capital Loss Carryover Worksheet (in the instructions for Schedule D) to put your carried-over amount into Lines 6 and/or 14 of your Schedule D next year. That carried-over loss will then be added on to whatever gains/losses you actually have next year and if you again have a net loss next year you'll get to claim $3,000 of it. Rinse and repeat until you claim less than $3,000 one year and therefore have nothing left to carry over to the next.