Can 401(k) Losses Really Be Claimed on Taxes? – Avoid This Mistake + FAQs

You’re not alone if you watched your 401(k) balance shrink during a market downturn. In 2022, for example, the average 401(k) account value fell by roughly 20%, leaving many savers anxious. After all, if you lost money in a regular brokerage account, you could usually claim a tax deduction for those losses. So, can you get any tax break for a 401(k) loss? Let’s dive in.

In this article, you’ll learn:

• If and when 401(k) or IRA losses can be written off on your tax return – and the one narrow exception to the rule.
• Common pitfalls to avoid when dealing with retirement account losses and taxes (so you don’t make a costly mistake).
• Key IRS terms explained (like “basis” and “miscellaneous deduction”) that shed light on why most 401(k) losses aren’t deductible.
• Real-life examples illustrating how a 401(k) loss deduction would work (and why it’s rare in practice).
• What federal law, IRS rulings, and even state tax codes say about claiming losses in retirement accounts, including important tax codes and court decisions.

Straight Answer: Are 401(k) Losses Tax Deductible?

For the typical taxpayer, 401(k) losses are not tax deductible. If your 401(k) investments drop in value, you cannot write off that loss on your federal income tax return.

The IRS treats your 401(k) as a tax-deferred account, meaning you haven’t paid taxes on the money that went in or its growth. Because you never reported those contributions or earnings as taxable income, a decline in their value isn’t considered a deductible loss. You can’t claim a tax loss for money that hasn’t been taxed in the first place.

Is there any exception?

Only in a very narrow scenario: if you have after-tax contributions (basis) in your 401(k) and you liquidate the entire account, ending up with less money than you put in after-tax. In that case, you have a loss on previously taxed dollars. Historically, such a loss could be claimed as an itemized deduction on Schedule A.

However, current federal law (through 2025) does not allow this deduction. The Tax Cuts and Jobs Act of 2017 suspended all “miscellaneous itemized deductions” – which included retirement account loss deductions – until at least 2026. So as of now, even that rare exception yields no tax benefit on your federal return. (After 2025, this could change if the law isn’t extended, potentially reviving the deduction for those uncommon cases.)

401(k) losses generally can’t be claimed on your taxes. You get the benefit of tax deferral on gains, but the flip side is that losses inside the plan don’t generate tax write-offs.

The only consolation: if your account lost value, you’ll simply owe less tax when you withdraw money (since you have less income to report), but no special deduction for the loss itself.

Costly Misconceptions: Avoid These 401(k) Loss Tax Mistakes

It’s easy to misunderstand the tax rules around retirement accounts. Here are some common mistakes and myths to avoid when dealing with 401(k) losses:

• Assuming Any 401(k) Drop Is Deductible: Many people think, “My 401(k) went down – I can write that off, right?” Wrong. A drop in value in a 401(k) or IRA is not like a stock loss in a taxable account. You cannot deduct a paper loss just because your account balance fell. Only realized losses on taxable investments count for deductions, not declines inside tax-sheltered plans.

• Trying to Claim a Loss without Withdrawing: Some taxpayers mistakenly attempt to report a loss for a retirement account that’s still open. Remember, investment activity inside your 401(k) is invisible to the IRS. Gains and losses aren’t reported annually. The IRS only cares about distributions (withdrawals). If you haven’t taken the money out, there is no taxable event – and no loss you can claim on a tax form.

• Withdrawing Early Hoping for a Deduction: Cashing out your 401(k) after a market downturn won’t give you a deductible loss in most cases. If you take a distribution while the account is down, you’ll simply pay tax on the smaller amount you withdraw (and possibly a 10% early withdrawal penalty if you’re under 59½). There’s no tax write-off for the loss in value. In fact, withdrawing early often makes things worse – you lock in the losses and potentially trigger penalties, with no tax relief to show for it.

• Confusing Retirement Losses with Capital Losses: Don’t mix up the rules for regular investments and retirement accounts. Selling stocks or funds in a taxable brokerage account at a loss can generate a capital loss deduction. But selling assets inside your 401(k) doesn’t produce a deductible loss on your personal taxes. Those assets were growing tax-deferred; you can’t cherry-pick a bad investment in your 401(k) and claim a capital loss on your 1040. Many filers mistakenly look for a place to deduct “401(k) losses” on Schedule D or elsewhere – there is no such line.

• Relying on Outdated Advice: Be wary of old articles or advice that say you can deduct IRA or 401(k) losses by closing the account. Prior to 2018, it was possible in rare cases (with many hoops to jump through). But tax laws changed. From 2018 through 2025, the IRS won’t allow those deductions. Some taxpayers have tried to claim them not realizing the law was suspended – only to face a denied deduction. Always double-check current rules before attempting any tax move.

By avoiding these mistakes, you save yourself from unnecessary audits, penalties, or simply wasted effort. Understanding the unique tax treatment of retirement accounts will help you make smarter decisions when the market dips.

Demystifying Tax Jargon: Key Terms for 401(k) Losses

Taxes and retirement plans come with a vocabulary of their own. Here are some important tax terms and concepts explained in plain English, to clarify why you usually can’t deduct 401(k) losses:

• Tax-Deferred Account: A retirement account like a 401(k) or traditional IRA is “tax-deferred,” meaning you don’t pay taxes on the money you contribute (if pre-tax) or on any investment growth until you withdraw funds. Because of this deferral, gains aren’t taxed along the way – but likewise, losses aren’t deductible along the way either. The tax happens at the end (withdrawal), not each year.

• Pre-Tax vs. After-Tax Contributions: Most 401(k) contributions are pre-tax – they come out of your paycheck before income tax, lowering your taxable income. After-tax contributions (much less common in 401(k)s, though standard for Roth 401(k)s) are made with money that’s already taxed. The distinction matters for losses: With pre-tax money, you have no tax basis in the account (all of it has yet to be taxed), so a loss just means less future taxable income. With after-tax contributions, you do have basis – you already paid tax on that portion. If the account drops below that after-tax basis and you withdraw everything, you’ve lost some of your already-taxed dollars. That’s the only scenario where a deductible loss could exist (because you had post-tax money in the game).

• Basis: In tax terms, “basis” is the amount of after-tax money in an investment. For a 401(k) or IRA, your basis is generally any amount you contributed that wasn’t deducted or excluded from income. For example, Roth 401(k) contributions or nondeductible IRA contributions are basis (already taxed). Why it matters: If you withdraw more than your basis, the excess was pre-tax and is taxable income. If you withdraw less than your basis (closing the account), it means some of your taxed money vanished – that shortfall is essentially a tax-deductible loss. However, as noted, claiming that loss is only possible under specific rules (and currently suspended at the federal level).

• Capital Loss: This is a loss realized from selling a capital asset (like stocks, bonds, mutual funds) in a taxable account for less than you paid. Capital losses are generally deductible – they can offset capital gains, and up to $3,000 of excess losses can offset ordinary income each year. Importantly, a 401(k) itself is not a capital asset on your personal tax return. It’s a tax-favored trust. So when your mutual fund inside the 401(k) loses value and you sell it, it doesn’t generate a capital loss you can claim personally. Capital loss rules only apply to taxable investments you own directly. Retirement accounts have their own insulated tax treatment.

• Miscellaneous Itemized Deduction: This is a category of deductions on Schedule A (Itemized Deductions) that, until 2017, included things like unreimbursed work expenses, tax prep fees, and yes, losses from IRAs or 401(k)s (if you met the conditions). These deductions were subject to a 2% of AGI floor – meaning you could only deduct the portion that exceeded 2% of your adjusted gross income – and other limits. Claiming a retirement loss as a miscellaneous deduction required itemizing instead of taking the standard deduction. However, the tax reform law (Tax Cuts and Jobs Act of 2017) eliminated miscellaneous itemized deductions from 2018 through 2025. That means even if you qualify for an IRA/401(k) loss deduction by the old rules, you currently get $0 benefit from it on your federal return. Unless and until those deductions are reinstated (scheduled for 2026), this avenue is closed.

• IRS Publication 575: This IRS guide (“Pension and Annuity Income”) includes information on the tax treatment of retirement plan distributions. Pub. 575 and related IRS resources explicitly note that losses inside a retirement plan generally aren’t deductible. They clarify that the only time a loss might be recognized is when after-tax money was in the plan and the total distribution is less than your basis. It’s a useful reference for the official word on 401(k)/IRA taxation.

Understanding these terms helps connect the dots: because your 401(k) is tax-deferred and mostly funded with pre-tax dollars, the tax code doesn’t treat a loss in that account like a personal capital loss. Only when after-tax money (basis) is at stake does the notion of a deductible loss even come into play – and even then, the opportunity is extremely limited under current law.

Examples: When (and Why) You Can’t Claim 401(k) Losses

To make this concrete, let’s look at a few scenarios and see whether a 401(k) loss would be deductible:

As you can see, only Scenario 3 (under older law) allowed a deduction – and it came with a lot of conditions: you needed after-tax basis, a total distribution, itemized deductions, and it happened before the law changed. Most real-world situations (Scenarios 1 and 2) yield no tax deduction for 401(k) losses. The tax rules are structured this way to prevent abuse – otherwise people could put money in a tax-favored plan, invest in risky assets, and then try to deduct losses while never having paid tax on the gains.

One more example to clarify: Suppose you have a Roth IRA instead of a 401(k). Roth IRAs are funded with after-tax money. If your investments tank and you withdraw everything, getting back less than you contributed, you technically have a loss on after-tax dollars. Prior to 2018, you could deduct that Roth IRA loss by closing all your Roth accounts (similar to scenario 3). But again, from 2018 onward, that deduction vanished. The principle is the same across retirement vehicles – losses inside a retirement plan don’t count on your taxes unless very specific conditions are met, and even then, current federal law blocks it.

What the Law Says: IRS Rules and Court Rulings on 401(k) Losses

The tax treatment of retirement account losses is backed by both the tax code and years of IRS rulings and court decisions. Here’s a quick tour of the legal landscape:

• Internal Revenue Code and IRS Regulations: The IRS has long maintained that personal losses inside tax-deferred retirement accounts are not immediately deductible. IRC Section 165 generally allows deductions for losses incurred in a trade or business or in a transaction entered for profit, but there are limitations for personal losses. The IRS does not view a drop in your 401(k) as a personal capital loss to deduct because the account is part of a tax-qualified plan. Additionally, IRS regulations and publications clarify that only when you have basis (after-tax money) in the plan and take a final distribution can you even consider a loss deduction. In other words, the loss must be realized and involve money that was previously taxed.

• Historical Deduction (Pre-2018): Before the Tax Cuts and Jobs Act, if you met the strict criteria (closed all similar accounts and your withdrawals totaled less than your after-tax contributions), you could claim the loss as a miscellaneous itemized deduction on Schedule A. This fell under IRS Code Section 67 provisions – miscellaneous deductions subject to the 2% AGI floor. Tax professionals would cite this as a method to salvage some tax benefit from a disastrous IRA or 401(k) investment. However, it was not commonly used, because few people have significant after-tax basis in a 401(k) and also incur a large loss.

• Tax Cuts and Jobs Act of 2017 (TCJA): This federal law made a sweeping change: it added IRC Section 67(g), which temporarily disallows all miscellaneous itemized deductions from 2018 through 2025. As a result, retirement account loss deductions were effectively eliminated during these years. The rationale was part of simplifying deductions and broadening the standard deduction. The TCJA overrides any prior allowance for IRA or 401(k) loss write-offs. Unless the law is changed, these deductions will come back in 2026. (Congress could choose to extend the ban or make other tax law changes, so stay tuned as 2025 approaches.)

• IRS Guidance: The IRS has issued guidance that echoes the law. For instance, an official IRS Tax Tip or FAQ might say, “Generally, you cannot claim a loss in a tax-favored retirement account on your tax return.” The IRS’s own Newsroom Fact Sheet on 401(k)s states that you can’t claim a capital loss on retirement accounts that receive tax-favored treatment, noting that a loss only matters when a previously taxed amount is distributed at a loss. Furthermore, IRS Publication 529 (Miscellaneous Deductions) was updated to explicitly state that a loss on your traditional or Roth IRA is no longer deductible due to the tax law changes. While Publication 529 talks about IRAs, the concept extends to 401(k)s – any qualified plan losses aren’t deductible on your 1040 under current rules.

• Court Rulings: Tax court cases over the years have reinforced these principles. For example, courts have denied deductions to individuals who tried to claim an IRA loss without closing all their accounts. The tax law requires the complete liquidation of all accounts of the same type (all traditional IRAs, for instance) to determine a true loss relative to basis. If a taxpayer only closed one IRA and tried to deduct a loss while another IRA remained open, the court disallowed it – confirming the IRS’s stance. Courts have also sided with the IRS that if there’s no after-tax basis, there is no permissible loss deduction at all. Another area courts have dealt with: some taxpayers argued that their 401(k) losses should be a deductible casualty or theft loss (for instance, in cases of fraud or bad investments). These arguments generally fail because losses from investments don’t qualify as casualty/theft, and if it’s inside a retirement account, it’s again not directly your personal loss for tax purposes.

• No Loopholes through Plan Design: Occasionally, aggressive tax strategies surface, like attempting to move 401(k) assets out in a way to “realize” losses. The IRS has anti-abuse rules. If a qualified plan (like a 401(k)) were to be disqualified (losing its tax-qualified status due to rule violations), the plan’s assets become taxable to the participants. Even in such odd cases, you generally wouldn’t get a loss deduction – instead, you might face unexpected taxable income. In short, there’s no clever loophole to claim losses by intentionally triggering some plan event. The tax code is quite clear: you can’t transform a retirement account loss into a personal tax deduction except by the narrow, now-suspended route of having after-tax basis and closing the account.

Bottom line: The legal precedent is firmly on the IRS’s side – 401(k) and IRA losses are largely a personal financial loss, not a tax-deductible one. Both the IRS and the courts have consistently applied the rule that only previously-taxed money can yield a deductible loss, and even then, only under specific conditions. With the current suspension of miscellaneous deductions, there’s effectively no federal tax relief for 401(k) losses right now. Anyone attempting to claim such a loss would find zero support in law and likely invite an IRS notice correcting their return.

401(k) vs. Other Investments: How Tax Treatment of Losses Differs

It may seem unfair that you can’t deduct 401(k) losses when you can deduct losses elsewhere. To understand why, it helps to compare how different types of accounts handle losses:

In short, a taxable account offers immediate recognition of losses (with limits), whereas a 401(k) offers tax deferral on gains but no recognition of losses. Another way to put it: in a taxable account the IRS shares some of your pain when you lose money (by giving you a deduction), but in a 401(k) the deal is that the IRS also didn’t tax your gain – so they don’t share the pain on the loss either.

Let’s also compare to a Roth IRA/401(k) scenario for completeness: Roth accounts use after-tax dollars, and qualified withdrawals are tax-free. If a Roth account loses money and you withdraw everything, you’ve lost some after-tax money. Under old rules, you could deduct that as a misc. itemized deduction (because your basis was after-tax). But unlike a taxable account, you couldn’t just sell investments and claim losses annually; you had to close the entire Roth. And now, with Roth loss deductions suspended (2018-2025), even that route is gone. Meanwhile, any losses in a 529 college savings plan or Health Savings Account (HSA) are also not deductible – similar logic, they are tax-advantaged accounts.

The key takeaway: taxable investments and tax-sheltered retirement investments play by different tax rules. You get upfront benefits with a 401(k) (tax deduction on contributions or tax-free Roth growth), but you give up the ability to deduct losses. With a regular account, there’s no upfront tax break, but you do get to deduct losses when things go south. It’s a trade-off inherent in how these accounts are structured.

State Tax Nuances: 401(k) Losses and State Income Taxes

So far, we’ve focused on federal tax law. What about state taxes? State income tax rules sometimes differ from federal rules, but when it comes to 401(k) losses, most states follow the federal treatment – meaning they do not allow a deduction for losses inside a tax-deferred retirement plan.

However, there are a few state-specific considerations to be aware of:

• States Taxing Contributions: A handful of states don’t fully conform to federal rules on retirement contributions. For example, New Jersey taxes 401(k) and IRA contributions (they’re not deductible on NJ state returns). As a result, when you eventually withdraw money in NJ, you only pay state tax on the portion that was never taxed (similar to how a Roth is treated for NJ purposes). If your account experiences losses, you still won’t get a special deduction – but the silver lining is that you won’t be taxed on any of your original contributions that you already paid tax on. In a case where a NJ taxpayer’s after-tax contributions exceed the distribution (a loss situation), effectively NJ would consider that a negative income situation. New Jersey allows you to claim the unrecovered basis as a deduction on the state return when all funds are withdrawn. This means NJ residents could potentially get state tax relief for a retirement account loss involving after-tax contributions. Other states that tax retirement contributions upfront (there aren’t many) would have similar treatment, essentially ensuring you’re not taxed twice but not really giving a “loss deduction” beyond basis recovery.

• States and Miscellaneous Deductions: Some states have their own itemized deduction rules and did not conform to the TCJA’s suspension of miscellaneous deductions. For instance, California, New York, Alabama, Arkansas, Hawaii, and Minnesota are examples of states that still allow certain miscellaneous itemized deductions on the state return. If you are in one of these states and you had a qualifying retirement account loss (by the old federal rules), you might be able to claim it on your state tax return even though federal doesn’t allow it. To be clear, this scenario is extremely uncommon – you’d have to meet all the criteria (closed account, after-tax basis > withdrawal) and then see if your state permits that deduction. It’s wise to consult a state tax expert in this situation. But the possibility exists that a deduction disallowed federally could still be taken on a state Schedule A equivalent. For example, California’s tax code often decouples from federal changes; CA might still let you deduct an IRA loss as an itemized deduction since CA did not adopt the federal suspension for many miscellaneous deductions.

• States with No Income Tax: If you live in a state with no income tax (like Florida, Texas, etc.), state considerations are moot – there’s no state income tax return to worry about. Any loss or distribution from a 401(k) doesn’t affect state taxes at all in those jurisdictions.

• State Tax Credits for Losses: Generally, states do not offer any special tax credit or unique deduction specifically for retirement account losses. State tax codes mostly piggyback off federal definitions of income. If a loss isn’t in your federal adjusted gross income, the state usually won’t independently recognize it. The main differences are as noted: how states treat the contributions (basis) and whether they allow miscellaneous itemized deductions.

• Local Taxes: A few local income tax systems (like New York City or some city taxes in Ohio) might have their own rules, but typically they align with state law on these matters. It’s quite rare for any local tax to permit something that state/federal does not.

In summary, state tax law generally won’t rescue you on 401(k) losses. At best, you might be in a state that still permits an itemized deduction for an IRA/401(k) loss if you qualify, or a state that taxed your contributions so you effectively already accounted for that money. Always check your specific state’s tax guidelines or speak to a CPA if you think you have a state-specific angle. But for most people, the state will mirror the federal result: no deduction for a retirement account loss.

Pros and Cons of Claiming a 401(k) Loss on Taxes

If you ever find yourself in the unusual position of considering a 401(k) or IRA loss deduction (for example, the rules change in 2026 or you qualify on a state return), it’s important to weigh the benefits and drawbacks. Here are the pros and cons of claiming a retirement account loss on your taxes:

In essence, the pros of a retirement loss deduction are about getting a tax break and not paying tax on money you never actually received. The cons are about the sacrifice and hoops required to get that break – namely, draining your retirement funds and meeting strict tax rules, which might involve other costs like penalties or reduced future growth.

For most people, the cons heavily outweigh the pros, which is one reason such deductions have been rare and why the tax law doesn’t encourage them. It’s usually better to keep your money invested for the long term in the 401(k) rather than pull it out just for a one-time tax deduction. The deduction, even if available, often won’t compensate for the loss of future compound growth and the taxes/penalties on withdrawal.

FAQs

Q: My 401(k) lost money this year – can I claim that loss on my taxes?
A: No. You cannot deduct losses in a 401(k) just because the account value went down. Tax losses aren’t recognized inside tax-deferred accounts.

Q: If I withdraw my 401(k) after it dropped in value, can I write off the loss?
A: Generally no. Withdrawing a shrunken 401(k) just means you’ll report a smaller distribution on your tax return. There’s no additional deduction for the fact that it was once higher.

Q: Can I deduct losses in an IRA or Roth IRA?
A: Not under current law. In the past, if all your IRAs were closed and you had less than your after-tax contributions, you could deduct that loss as an itemized deduction. From 2018 through 2025, this deduction is suspended.

Q: Will the IRS allow retirement account loss deductions again after 2025?
A: It’s possible. If the current law sunsets as scheduled, miscellaneous itemized deductions (including IRA/401k losses) would return in 2026. Congress could change this, so stay updated on tax law changes.

Q: My 401(k) held stock that became worthless. Can I claim a capital loss for that?
A: No. Even if an investment in your 401(k) goes to $0, it’s inside a tax-sheltered plan. You can’t claim a capital loss on your personal taxes for that. It only affects your 401(k)’s value, not your taxable income.

Q: I have after-tax contributions in my 401(k). If the account loses money, is that loss deductible?
A: Only in a very narrow case. You’d have to withdraw everything and receive less than your after-tax contributions. Even then, as of now, you get no deduction federally (because those deductions are currently disallowed). You might get a state deduction if your state allows it.

Q: How are losses in a regular brokerage account different from losses in a 401(k)?
A: Losses in a taxable brokerage account can be deducted as capital losses on your tax return (up to $3,000 per year against other income, with the rest carried forward). Losses in a 401(k) are not deductible at all on your return due to the account’s tax-deferred status.

Q: What should I do if my 401(k) is down? Any tax strategy?
A: Typically, the best move is to stay invested and not panic. You don’t get a tax write-off for staying invested, but you preserve the opportunity for recovery. Tax-wise, there’s little to do with a 401(k) loss. Focus on proper investment allocation and remember the tax advantages you’re already getting in the 401(k). If you have taxable investments that are down, you could consider tax-loss harvesting in those accounts – but for the 401(k), just keep your long-term strategy on track.