{"id":3157,"date":"2016-04-04T09:00:03","date_gmt":"2016-04-04T16:00:03","guid":{"rendered":"http:\/\/evergreensmallbusiness.com\/?p=3157"},"modified":"2019-07-01T15:43:07","modified_gmt":"2019-07-01T22:43:07","slug":"understanding-the-wash-sale-rules","status":"publish","type":"post","link":"https:\/\/evergreensmallbusiness.com\/understanding-the-wash-sale-rules\/","title":{"rendered":"Understanding the Wash Sale Rules"},"content":{"rendered":"
\"money<\/a>
Investment Ideas<\/figcaption><\/figure>\n

Regularly during tax season, we see clients with a pretty large volume of trading activity across a number of brokerage accounts. And unfortunately this creates a potential problem due to an arcane bit of tax law known as the wash sale rules.<\/p>\n

I want to talk a little bit about how these rules work and why they commonly create a problem for active traders.<\/p>\n

After that discussion, I\u2019ll then offer up one tiny suggestion to make accounting for wash sales a bit more manageable.<\/p>\n

Wash Sale Basics<\/h2>\n

Let me start with the basics, including the definition of what a wash sale even is and why you make an adjustment on your tax return\u2019s Schedule D.<\/p>\n

A wash sale occurs when you sell a security (such as stock) at a loss then you repurchase either the same security or a substantially identical security within 30 days of selling the old stock.<\/p>\n

If you effect a wash sale and trigger a loss, tax law says you don\u2019t get to deduct the loss. Rather, the loss needs to be added to the basis of the newly purchased \u201creplacement\u201d stock.<\/p>\n

This might sound a bit complicated, and sometimes it can be, but the logic makes public policy sense.<\/p>\n

People used to do these wash sales as a way of \u201crealizing\u201d losses on stock that had declined (perhaps temporarily) in value, thus generating a loss for tax purposes that could offset taxable income.<\/p>\n

But the IRS decided that this was an unfair tax loophole to exploit since the transaction \u201ccreated a loss\u201d without actually changing the taxpayer\u2019s financial position. As a result, they created the wash sale rules we\u2019ve been talking about here.<\/p>\n

And let me just emphasize something so there\u2019s not any confusion. Because a wash sale loss adjustment adds to the basis of the repurchased security, you as the taxpayer do ultimately get to recognize the loss eventually. It\u2019s just that the loss\u00a0will be recognized when the repurchased security is ultimately sold (assuming that the repurchased security isn\u2019t ultimately sold in another wash sale, of course).<\/p>\n

A Quick Clarification<\/h2>\n

I want to provide one quick clarification since we\u2019re into the discussion.<\/p>\n

This concept of \u201csubstantially identical securities\u201d usually means purchasing an option or similar type of contract to buy the security. However, the true rule is that you have to look at the \u201cfacts and circumstances\u201d of a particular transaction to tell if it\u2019s substantially identical or not. (If that definition sounds wishy-washy, it\u2019s because it is.)<\/p>\n

But tax law is smart to call things that quack and swim like a duck a \u201cduck.\u201d For example, if you use options to avoid identicalness but really you\u2019ve constructed something where the items you\u2019re buying and selling are substantially identical, you should probably assume the wash sale rules apply.<\/p>\n

Wash Sale Gotchas<\/h2>\n

Obviously wash sales and wash sale loss adjustments don\u2019t, on their face, seem that tricky. You can see that from the short discussion here.<\/p>\n

Furthermore, as you may know if you\u2019re reading this blog post, brokers actually track wash sales of identical securities that occur within the same account. (That\u2019s why, for example, wash sale adjustments show up on the 1099-B from your brokerage company.)<\/p>\n

Given all this, what could possibly go wrong? Well, at least three gotchas can occur.<\/p>\n

    \n
  1. The actual rule for brokers is that they have to track wash sales for identical <\/em>securities within the same<\/em> account. But think what this means. If you have wash sales occurring across accounts, the broker won\u2019t track that. That means you will need to track that.
    \nNote:<\/strong> Your tax return preparer probably won\u2019t be able to track this. And if it is tracked, and you have a large volume of trades, plan to spend more on tax preparation than you spend on your trading commissions. By the way, our offices won\u2019t (just as matter of mental health) do this cross-account tracking of wash sales except in extreme cases.<\/li>\n
  2. Remember that the rule for brokers is wash sales of identical<\/em> securities within the same<\/em> account. But remember that taxpayers have to report wash sale treatment for substantially identical<\/em> securities. This means you may have wash sales your broker doesn\u2019t report because there\u2019s a difference between \u201cidentical\u201d and \u201csubstantially identical\u201d securities. (For example, shares of Apple stock may be substantially identical to Apple call options.)<\/li>\n
  3. Finally,\u00a0there\u2019s a \u201crelated party\u201d rule that says that if you sell a security and a related party (such as your spouse) purchases a substantially identical security within 30 days, that also counts as a wash sale.<\/li>\n<\/ol>\n

    By the way, if you sell a security and your business or your retirement account purchases a substantially identical security, that counts too because your business or IRA counts as a related party.<\/p>\n

    Our One Tip<\/h2>\n

    Other than avoiding trading, we don\u2019t have any magical shortcuts to offer you.<\/p>\n

    But we do have one practical idea. Because the big brokerage outfits will track wash sales of identical securities that occur within the same account, you want to always trade a particular security within the same account.<\/p>\n

    Don\u2019t, for example, trade Apple stock across multiple accounts. Always trade it in your one account.<\/p>\n

    Are You a Small-Business Owner Paying Too Much\u00a0Tax?<\/h2>\n

    \"\"<\/a>Small-business owners often don\u2019t maximize\u00a0their legitimate tax deductions. They don\u2019t, for example, structure their business operations to protect legitimate deductions. They frequently\u00a0don\u2019t do enough to create new deductions. And rarely do they understand how to recycle, or double-deduct, amounts that\u00a0can be used more than once.<\/p>\n

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    This 70-page ebook\u00a0provides detailed instructions\u00a0about how you can save thousands of dollars annually in income and related taxes simply by more effectively using legitimate small-business tax deductions. Interested in more information? Click here.<\/a><\/p>\n