If I report net capital gains on my federal return after subtracting my capital losses, and I also received short-term capital gain distributions from a mutual fund reported as ordinary dividends, can I increase my Missouri capital gains subtraction to add back the losses or to include the mutual fund distributions?

Plain-English summary

An individual taxpayer filed a 2025 Missouri Form MO-1040 and, following the Department's own instructions, subtracted the net capital gains reported on Federal Form 1040, Line 7a as their Missouri capital gains subtraction on Form MO-A, Line 18. That federal number was already net of the taxpayer's capital losses, and it did not include a separate amount of short-term capital gains that a mutual fund had distributed to the taxpayer as ordinary dividends on Federal Form 1040, Line 3b. The taxpayer asked the Department to let them increase the Missouri subtraction on both counts: first, to add back the capital losses that had reduced the federal Line 7a number, and second, to add in the mutual fund's short-term gain distributions.

The Department said no to both requests. On the capital-loss question, the Department read Section 143.121.3 and 143.121.3(14)(a), RSMo together: the subtraction covers "one hundred percent of all income reported as a capital gain for federal income tax purposes," but only "to the extent included in federal adjusted gross income." Because capital gains are netted against capital losses before they ever reach federal adjusted gross income, only the netted (after-loss) amount is "included" in federal AGI, so only that netted amount qualifies for the Missouri subtraction. The Department also flagged a policy reason: letting a taxpayer add back losses would produce a double state tax benefit -- the losses already reduce Missouri taxable income once (by shrinking the AGI starting point), and inflating the subtraction on top of that would reduce it again for the same losses.

On the mutual fund question, the Department explained that a mutual fund is fundamentally a corporation, not a pure pass-through entity, sometimes better described as a "quasi-pass-through entity." When a mutual fund's short-term capital gains are distributed to shareholders as ordinary dividends (not "capital gain dividends"), the capital-gain character of the underlying income does not flow through to the investor the way it would from a partnership. Because the amount was properly reported as an ordinary dividend on Line 3b rather than as a federal capital gain, it isn't "income reported as a capital gain for federal income tax purposes" and doesn't qualify for the Missouri subtraction -- regardless of what generated the distribution inside the fund.

Because the Department answered both core issues against the Applicant, it treated the Applicant's remaining "unit of account" questions (which were only relevant if the Department had agreed with the Applicant) as moot and did not address them.

What this means for you

Individual taxpayers and investors

If you have both capital gains and capital losses in a given year, your Missouri capital gains subtraction is based on your capital gains net of those losses -- the same number that flows into your federal adjusted gross income on Line 7a. You cannot separately "gross up" the Missouri subtraction to ignore your losses. Likewise, if a mutual fund distributes short-term capital gains to you that show up as an ordinary dividend on Line 3b rather than as a capital gain on Line 7a, that amount does not qualify for the Missouri capital gains subtraction, even though the fund generated it from its own short-term trading gains.

Tax professionals and accountants preparing Form MO-1040 / Form MO-A

When completing Form MO-A, Line 18, use the capital gain figure actually reported on Federal Form 1040, Line 7a (i.e., already net of capital losses) -- do not add back client capital losses to inflate the subtraction. Also exclude any mutual fund short-term capital gain distributions that were reported as ordinary dividends on Line 3b; those do not convert into subtraction-eligible "capital gains" just because the fund's underlying gain was short-term in character.

Mutual fund investors specifically

Distinguish between "capital gain dividends" (which are treated as capital gains in the shareholder's hands and are reported differently on the federal return) and ordinary dividends that merely reflect a fund's short-term capital gains internally. Per this ruling, only amounts actually reported as a capital gain for federal purposes -- and included in federal AGI as such -- can qualify for the Missouri subtraction; dividends reported as ordinary income on Line 3b do not.

Common questions

Q: Can I increase my Missouri capital gains subtraction to offset the effect of netting my capital losses against my capital gains?
A: No. The Department held that the subtraction only applies to capital gains "to the extent included in federal adjusted gross income," and gains are only included in federal AGI after being netted against losses. So only the after-loss (netted) amount qualifies.

Q: I received a distribution from a mutual fund that came from the fund's own short-term capital gains, but it was reported to me as an ordinary dividend. Does that count toward my Missouri subtraction?
A: No. The ruling explains that because a mutual fund is treated as a corporation (not a true pass-through), the capital-gain character of its internal short-term gains does not flow through to you. Only amounts actually reported as a capital gain for federal income tax purposes qualify, and ordinary dividends reported on Line 3b do not meet that test.

Q: Why doesn't the Department just let taxpayers add back their capital losses to the subtraction?
A: The ruling reasons that doing so would create a duplicated state tax benefit: the losses already reduce Missouri taxable income once by shrinking federal AGI (the starting point for Missouri tax), and adding them back into the subtraction would reduce Missouri taxable income a second time for the same losses.

Q: Does this ruling mean my situation will be decided the same way?
A: Not automatically. This letter ruling is binding on the Department only as to the specific Applicant who requested it, only for three years from the date of the ruling, and only so long as the facts don't change and the underlying statutes aren't changed by the General Assembly or reinterpreted by the courts. No other taxpayer can rely on it directly, though it does show how the Department currently reads Section 143.121.3 and 143.121.3(14)(a), RSMo on these two issues.

Q: What happened to the Applicant's other questions about the "unit of account" for the subtraction?
A: The Department did not reach them. Those secondary issues were only relevant if the Department agreed with the Applicant's core positions on capital losses and mutual fund distributions; since it rejected both, it denied the remaining requests as moot.

Citations and references

• Section 536.021.10, RSMo (authorizes the Director of Revenue to issue binding letter rulings)
• 12 CSR 10-1.020 (Department of Revenue regulation on letter ruling requests and procedure)
• Section 143.121.3, RSMo (subtractions from federal adjusted gross income allowed only to the extent included in federal AGI)
• Section 143.121.3(14)(a), RSMo (100 percent capital gains subtraction for tax years beginning on or after January 1, 2025)
• Section 143.011, RSMo (imposes Missouri income tax on individuals)

Source

• Landing page: Missouri DOR Rulings Search
• Ruling: LR 8397

Original ruling text

Salutation:

This is a letter ruling issued by the Director of Revenue under Section 536.021.10, RSMo, and Missouri Code of State Regulations 12 CSR 10-1.020, in response to your letter April 3, 2026.

The facts as presented in your letter ruling request are summarized as follows:

Applicant filed a Form MO-1040 for tax year 2025, subtracting only net capital gains reported on Federal Form 1040, Line 7a as directed by the Department's instructions for Form MO-A, Line 18. These net capital gains were arrived at after reduction for $X in capital loss(es). These net capital gains also did not include $Y in what the Applicant describes as short-term capital gains from mutual fund distributions. The relevant Form MO-1040 instruction states:

The state of Missouri allows a subtraction from your federal adjusted gross income for 100 percent of your federally reported capital gains. Enter the amount of capital gains reported on your Federal Form 1040 or 1040-SR, Line 7a. This amount must have been included in figuring your federal adjusted gross income. Attach your Federal Form 1040 or Federal Form 1040-SR along with any applicable schedules.

Applicant does not agree that Federal Form 1040, Line 7a will always provide the correct number to include in the subtraction for the Form MO-A, Line 18. Applicant notes that capital losses are netted with gains in Federal Form 1040, Line 7a. Applicant believes that an adjustment would be needed to increase the amount on Federal Form 1040, Line 7a to arrive at capital gains without reduction for capital losses. Applicant also believes that mutual fund distributions of short-term capital gains included on Federal Form 1040, Line 3b should be included in the Missouri Capital Gain Subtraction. Applicant presents secondary issues regarding the 'unit of account' for subtraction of capital gains to be addressed if the Department agrees with the Applicant's positions.

ISSUE 1:

Whether Applicant may increase Applicant's Tax Year 2025 Missouri Capital Gains Subtraction by $X to remove the effect of the netting of capital loss(es) against capital gain(s) in arriving at Federal Form 1040, Line 7a.

RESPONSE 1:

No. Applicant may not increase Applicant's Tax Year 2025 Missouri Capital Gains Subtraction by $X to remove the effect of the netting of capital loss(es) against capital gain(s) in arriving at Federal Form 1040, Line 7a.

Under Sections 143.121.3 and 143.121.3(14)(a), RSMo (with emphasis added in the below):

There shall be subtracted from taxpayer's federal adjusted gross income the following amounts to the extent included in federal adjusted gross income [...] For all tax years beginning on or after January 1, 2025, one hundred percent of all income reported as a capital gain for federal income tax purposes by an individual subject to tax pursuant to section 143.011.

Although the Missouri Capital Gains Subtraction allows a subtraction for "one hundred percent of all income reported as a capital gain for federal income tax[,]" that amount is only allowed "to the extent included in federal adjusted gross income[.]" Before they are included in federal adjusted gross income, capital gains are netted against capital losses.   Therefore, one hundred percent of all income reported as a capital gain for federal income tax purposes, to the extent included in federal adjusted gross income, requires that capital gains be netted against capital losses. It is only these capital gains, after netting, that would be "included in federal adjusted gross income[,]" and so only these capital gains, after netting, that are eligible for the Missouri Capital Gains Subtraction.

The alternative position would result in a duplicated state tax benefit. First, capital losses would decrease an individual's Missouri taxable income by reducing the capital gains that are included in the starting point of calculating that Missouri taxable income: federal adjusted gross income (although not below zero). Second, the Missouri Capital Gains Subtraction would, on this erroneous view, be increased by the amount of those same capital losses in order to further decrease Missouri taxable income. To the extent there is any ambiguity on this point in Sections 143.121.3 and 143.121.3(14)(a), RSMo, that ambiguity should be interpreted against the expansion of the Missouri Capital Gains Subtraction.

ISSUE 2:

Whether Applicant may increase Applicant's Tax Year 2025 Missouri Capital Gains Subtraction by $Y to account for distributions of short-term capital gains from mutual funds which were reported on Tax Year 2025 Federal Form 1040, Line 3b rather than Tax Year 2025 Federal Form 1040, Line 7a?

RESPONSE 2:

No. Applicant may not increase Applicant's Tax Year 2025 Missouri Capital Gains Subtraction by $Y to account for distributions of short-term capital gains from mutual funds which were reported on Tax Year 2025 Federal Form 1040, Line 3b rather than Tax Year 2025 Federal Form 1040, Line 7a.

A mutual fund is fundamentally a corporation.   It is not a pure pass-through entity like a partnership, but is instead better described as a "quasi-pass-through entity."   The amount referred to by Applicant does not represent the short-term capital gains of an individual, but instead - at least for purposes of Section 143.121.3(14), RSMo - reflects dividends paid from a corporation to a shareholder.   The dividends just so happen to have resulted from short-term capital gain(s) of the mutual fund. Unlike the situation of a partner in a partnership,  the capital gain character of these items does not flow through to the mutual fund investor.   Again, to the extent there is any ambiguity on this point in Sections 143.121.3 and 143.121.3(14)(a), RSMo, that ambiguity should be interpreted against the expansion of the Missouri Capital Gains Subtraction.

Importantly, the distributions involved in Applicant's question are not "capital gain dividends.' 'Capital gain dividends' are treated as capital gains in the hands of the mutual fund shareholder.   'Capital gain dividends' cannot properly be reported on Tax Year 2025 Federal Form 1040, Line 3b. By contrast, a mutual fund's distribution of its short-term capital gains must be reported as ordinary dividends for federal income tax purposes.   Only income reported as a capital gain for federal income tax purposes, to the extent included in federal adjusted gross income, qualifies for the Missouri Capital Gains Subtraction.

Given the foregoing responses, Applicant's remaining requests are denied as moot.

This letter ruling is binding upon the Department of Revenue with respect to the Applicant for three (3) years from the date of this letter and is subject only to statutory changes by the General Assembly and to changes in the interpretation of law by the courts or administrative tribunals.  If a change occurs, an applicant who relies upon an outdated interpretation may be subject to additional taxes, interest and penalties, which may be imposed prospectively from the date of the change.  For this reason, the interpretation set forth above should be reviewed on a regular basis.  Please note that any change in or deviation from the facts as presented will render this ruling inapplicable.

Should additional information be needed, please contact Legal Counsel II, Vickie Adiele, General Counsel's Office, Post Office Box 475, Jefferson City, Missouri 65105-0475, or email at [email protected].

Sincerely,

Trish Vincent