What Are Unrealized Gains and Losses?

Gains or losses are said to be “realized” when a stock (or other investment) that you own is actually sold. Unrealized gains and losses are also commonly known as “paper” profits or losses.

An unrealized loss occurs when a stock decreases after an investor buys it, but has yet to sell it. If a large loss remains unrealized, the investor is probably hoping the stock’s fortunes will turn around and the stock’s worth will increase past the price at which it was purchased. If the stock rises above the original purchase price, then the investor would have an unrealized gain for the time they hold onto the stock.

Example of Unrealized Gains and Losses

Let’s say you buy shares in TSJ Sports Conglomerate at $10 per share and then shortly afterward the stock’s price plummets to $3 per share. But you do not sell it. At this point, you have an unrealized loss on this stock of $7 per share, because the value of your shares is $7 dollars less than when you first entered into the position.

Now, let’s say the company’s fortunes then shift and the share price soars to $18. Since you have still not sold the stock, you’d now have an unrealized gain of $8 per share ($8 above where you first bought in).

Tax Consequences

Calling unrealized gains and losses “paper” gains or losses implies that the gain/loss is only real “on paper.” This is especially important from a tax perspective as, in general, capital gains are taxed only when they are realized, and you can only deduct capital losses on your tax return after they’re realized too.

To achieve the most tax benefit, you’ll want to be strategic about how you deduct your capital losses. If you have both capital gains and losses in the same year, you can use your capital losses to reduce your tax burden by offsetting your capital gains. A capital loss can also be used to reduce the tax burden of future capital gains. Even if you don’t have capital gains, you can use a capital loss to offset ordinary income up to the allowed amount.

You might be able to take a total capital loss on a stock that you own that has gone to zero because the company went out of business or went bankrupt. A tax professional will be able to advise you on the forms you’ll need to complete and the best strategy for your situation.

Of course, while this is how it works from a tax perspective, remember that a loss is a loss, whether it’s been realized or not. For some investors, learning when to take their gains and cut their losses is the key to long-term investing success.