What is the IRS Wash Sale Rule?
IRS publication 550 page 56 states:
| Wash Sales
You cannot deduct losses from sales or trades of stock or securities in a wash sale. A wash sale occurs when you sell or trade stock or securities at a loss, and within 30 days before or after the sale you:
If you sell stock and your spouse or a corporation you control buys substantially identical stock, you also have a wash sale. If your loss was disallowed because of the wash sale rules, add the disallowed loss to the cost of the new stock or securities. The result is your basis in the new stock or securities. This adjustment postpones the loss deduction until the disposition of the new stock or securities. Your holding period for the new stock or securities begins on the same day as the holding period of the stock on securities sold. |
What this means in Plain English:
This means that if you close a trade at a loss, and then buy back the same, or "substantially" the same equity such as an option on that equity, you cannot take the loss at that time. According to the IRS, the loss now has to move forward, and has to be attached to the cost basis of the trade in which you bought back the same equity.
If that trade now ends in a loss, and you buy the same equity again, the loss gets moved forward again. This can keep happening indefinitely if you continue to keep trading the same equity again and again, and keep ending up with an accumulated loss, and do not stop trading this equity for at least 31 days.
Negative Consequences
If the repurchased shares that triggered the wash sale were 1) held open at year end or 2) purchased in January of next tax year, the IRS says that the loss is disallowed for the current tax year and the loss gets moved forward to next tax year, or whatever year you finally dispose of those shares.
You lost the money this year, but the IRS says you cannot take the loss till next year or later!
In addition, the holding period of a trade may change due to a wash sale. For example, if you close a long term holding at a loss and then buy it back within the 30 day window, the loss moves forward to the cost basis of the new trade, and your holding period for the new trade begins on the same day as the holding period of long term trade. So even if you close the new trade in less than a year, the IRS requires you to report this new trade as a long term gain or loss.
Learn about wash sales when short selling stocks.Please note: This information is provided only as a general guide and is not to be taken as official IRS instructions. Armen Computing Ltd. does not make investment recommendations nor provide financial, tax or legal advice. You are solely responsible for your investment and tax reporting decisions. Please consult your tax advisor or accountant to discuss your specific situation.
