P2P Lending / NFT Lending Forum

Yes, your capital losses, up to $3000 maximum per year, will be deducted from other ordinary income (salary, interest, etc).

If your net losses are greater then $3000, then you will deduct $3000 in the current year, and the amount over $3000 gets carried forward, indefinitely, to be used up to $3000 per year, until all used up.

Interested in getting comments on investing in small start-ups, through SeedInvest (http://www.seedinvest.com" class="bbc_link" target="_blank">www.seedinvest.com).  Particularly interested in Patch of Land (https://www.seedinvest.com/patch.of.land" class="bbc_link" target="_blank">https://www.seedinvest.com/patch.of.land) who is looking to raise $2.5mm

Any thoughts and comments would be appreciated.

CA-Lender

I'd like to chime in on this issue.  My background is in accounting. (Not actively practicing)

My short answer would be that as of right now, not even the IRS would be able to advise you if you can report P2P investments as a business.  Eventually, I assume someone will test this issue, and it will be resolved either by the Tax Court or IRS Opinion letter.

With that said, if we backtrack to the late 1990's and the stock market boom, and all the "day trader's" that came out of that, the IRS did make a distinctions between "investor" (reporting on Schedule B & D and deducted VERY LIMITED expenses on Schedule A) versus "self-employed trader" (reporting on Schedule C and deducting expenses directly).  But, they did not make it easy to be classified as a trader.  To do so, a trader had to show that trading was their primary business activity (not something they did while sitting at their desk at their primary job), there had to be significant trading activity (daily), AND the trader needed to attach a specially worded election to their tax return THE YEAR BEFORE they were considered traders, and finally, at the end of their tax year (generally 12/31), they needed to "mark to market" all their holdings--valuing their holding and reporting any increase or decrease in value, similar to if the asset was sold on that day. 

This was something that I assume began with a few test cases, that ended up in Tax Court, from which an Opinion, and Regulations were issued.

I do not see anything like this happening for at least a decade, until P2P goes very mainstream, but, I assume it would be advantageous for some of the larger investors (disclaimer: would depend on the investors other taxable income and deductions, of course).

The biggest benefit of being classified a "trader" was that in years that they had losses (ie capital losses), they could deduct them, in full, against other income, while "investors" are limited to $3000 per year of capital losses.  In P2P lending, charge-offs are reported as capital losses, so if a P2P investor does not have other capital gains, these charge-offs can only be deducted up to $3000 per year, while all the interest earned is report, in full, in the year paid.

Here's an example of the problem with the current taxation of P2P Investing:

Example: Assume interest earned during the year of $80,000, but charged-off notes were $33,000.  This investor earned $47,000 net, but would report net income of $77,000  ($80,000 income and a $3000 maximum annual capital loss), and pay taxes on $77,000.  If this person can report there P2P activity as a business, they would pay taxes on the $47,000, but would also potentially owe another 13-15% of Self Employment tax.  Generally, the latter option works out better for most.

And, here's a nightmare scenario:  Assume $50,000 interest, but lots of charge-off: $40,000.  Net earnings are $10,000, but net taxable income would be $47,000 and taxes on this could end up being HIGHER then this investor earned.