Print

[HollowOak]

I'm not (fortunately and touch wood) in this position, but is my assessment correct that there is a rather big issue with Prosper lending for big lenders?

The way I understand it, defaulted loans can only be written off against capital gains - not current income. So, if one suffers no other offsetting capital gains, the maximum one can write off in a year is $3,000?

All lenders on Prosper should expect a certain level of default, perhaps not all as severe as carrey79, pensioner or even our own Fred93  . However, losses are part of the name of the game, and unless these guys have huge offsetting capital gains, they're looking at 41, 74 and 14 years' worth of accumulated tax losses already.

Please tell me I'm missing something.

[Fred93]

The way I understand it, defaulted loans can only be written off against capital gains - not current income. So, if one suffers no other offsetting capital gains, the maximum one can write off in a year is $3,000?

Please tell me I'm missing something.

The excess capital loss that you can't use rolls forward to future years.  You're thinking that this means you can take $3,000 per year, but for most folks there will be a year in there somewhere that has significant capital gains, and therefore allows you to recognize the loss.  Almost everybody has some signicant capital gains from time to time. 

Large lenders are very likely to have significant capital gains.  So... I don't see the capital loss limitation as a problem.

[ira01]

The BK defaults (as opposed to the delinquency defaults that are sold to the JDB) are treated as non-business bad debts, which are counted as short-term capital losses, regardless of how long held.  Oddly enough, that means that for most large lenders, it is much better for a borrower to go BK than for the loan to be sold off at the low end of the JDB range -- a lender in the 28% bracket (MFJ w/ AGI >$128,500), for example, reaps an extra 13% vs. the 15% capital gains rate -- considerably better than the low single digits the JDB pays for many loans.  And the benefit grows with the lender's income -- MFJ w/ AGI >$195,850 is in the 33% bracket (an extra 18%), and for the extremely wealthy (MFJ w/ AGI >$349,700), the tax rate is 35% (a 20% premium). 

This raises the question of whether Prosper could legitimately offer lenders some kind of "all or nothing" option which, if chosen by the lender at the time of bid, would include a clause in that lender's prommissory notes that immediately upon the loan reaching 4 months late, the lender's share of the loan becomes worthless, thereby allowing the lender to treat the loan as non-business bad debt.  I imagine there would have to be a non-tax justification for such a provision, but perhaps the avoidance of carrying very long-term late loans would suffice, or perhaps some other justification could be found. 

[TheGrey]

I'm not (fortunately and touch wood) in this position, but is my assessment correct that there is a rather big issue with Prosper lending for big lenders?

The way I understand it, defaulted loans can only be written off against capital gains - not current income. So, if one suffers no other offsetting capital gains, the maximum one can write off in a year is $3,000?

All lenders on Prosper should expect a certain level of default, perhaps not all as severe as carrey79, pensioner or even our own Fred93  . However, losses are part of the name of the game, and unless these guys have huge offsetting capital gains, they're looking at 41, 74 and 14 years' worth of accumulated tax losses already.

Please tell me I'm missing something.

I don't really see the point... Yes, they may not be able to write off all their losses in one year. However, you could just as easily say "Big Flaw for Big Investors in the Stock Market"

[HollowOak]

I'm not (fortunately and touch wood) in this position, but is my assessment correct that there is a rather big issue with Prosper lending for big lenders?

The way I understand it, defaulted loans can only be written off against capital gains - not current income. So, if one suffers no other offsetting capital gains, the maximum one can write off in a year is $3,000?

All lenders on Prosper should expect a certain level of default, perhaps not all as severe as carrey79, pensioner or even our own Fred93  . However, losses are part of the name of the game, and unless these guys have huge offsetting capital gains, they're looking at 41, 74 and 14 years' worth of accumulated tax losses already.

Please tell me I'm missing something.

I don't really see the point... Yes, they may not be able to write off all their losses in one year. However, you could just as easily say "Big Flaw for Big Investors in the Stock Market"

If I trade on the stock exchange I can incur short-term losses that are deductible against income. I see the ideal being that I can deduct the losses from defaults against my interest earned at a minimum.

You earn interest on Prosper that are taxed at your marginal rate of tax, yet your losses are deducted over time at your LT capital gains tax rate. This is different than if you were an active stock market trader.

[Mark12547]

If one were a stock trader and incurred tens of thousands of dollars of capital losses and didn't have gains to be offset, one would still be able to use the excess capital loss each year, up to $3000/yr, to offset income, and the rest would be carried forward to the next year (and the next, etc.).

I changed mutual fund families a few years ago, realized a net almost $21,000 of capital losses, and I still have a couple more years before I get those capital losses used up at a mere $3,000/yr. Of course, I could use them up faster by realizing a good chunk of capital gains, but I would rather offset income than offset long-term capital gains.

One could also realize capital gains by selling an expensive house that had appreciated by more than the exclusion that current law allows.

But it is unfortunate that we are taxed interest at ordinary income tax rates, but defaults are capital losses.