Wash sale tax rules have been recently reported by brokers as wash sale adjustments as part of covered cost-basis reporting. The TD Ameritrade tax team breaks it down.
Oh, that Uncle Sam—when it comes to selling a stock for a loss, nothing gets by him. You can do it, of course, but if you repurchase the same (or a substantially similar) security 30 calendar days before or after the loss sale date, your trade is considered a wash sale. That means your loss is deferred, and you can’t claim the loss on this trade on your taxes.
And now, a quick quiz. True or false? Brokers track your wash sales.
Actually, it’s sort of both.
Let’s take a step back and unpack this a bit. A loss is deemed “artificial” if shares are sold (at a loss, of course) within the wash sale window.
What does that mean? By rule, if you hold a position, sell it at a loss, but buy the same (or substantially identical) security within a 61-day window (that is, 30 days before or after the closing transaction), you can’t use the loss on your original sale for tax purposes. Instead, the loss is added to the cost basis of the replacement shares, deferring the loss until those shares are later sold.
The holding period for the replacement shares will also be adjusted to include the holding period of the shares sold for a disallowed loss. At its most basic, the wash sale rule prevents investors from taking an artificial loss as a means to lower their tax bill. (The fine print gets more complicated.)
The wash sale tax rule is nothing new; it’s been befuddling investors since the 1920s. But in recent years, as brokers began reporting adjusted cost basis, investors were treated to an eye-opener when wash sale adjustments started appearing as reportable information on their 1099s.
The wash sale rule applies to shares of the same security, but it also includes repurchasing a substantially identical security.
And wash sale adjustments aren’t exclusive to stocks. The rule applies to mutual funds, exchange-traded funds (ETFs), and options contracts too. And the rule isn’t limited to a single account. If you sell a security for a loss in your account, and your spouse or a company you control buys the same or a substantially identical security in their account within the 61-day window, the loss would still be disallowed.
And if you have multiple accounts across one firm or several firms, you need to keep track of relevant transactions within all of the accounts, including any individual retirement accounts (IRAs). Note that most firms’ software will not track wash sales within an IRA.
It’s certainly a lot to keep track of, which is why your broker helps you out with some of it. But there are limitations. The IRS gave taxpayers and brokers different rule books for calculating wash sales. Here are a few of the basic differences:
Does it seem like the broker is held to less stringent standards than the average taxpayer? Keep in mind that your broker isn’t privy to all your accounts across multiple firms. Your broker doesn’t know the identity of your spouse and all of their accounts, nor does it know what companies you may control. That would be a logistical nightmare! Plus, the term “substantially identical” leaves quite a bit of room for interpretation. So please cut your broker a little slack here—brokers can’t realistically track all applicable transactions.
Again, sort of. And anything you might try comes with its own risks.
For example, some taxpayers employ a so-called “double-down” strategy. If you’re looking at taking a loss on 100 shares of XYZ for tax purposes, but you’d like to stay long the position, you could buy 100 more shares, wait the 31 days, and then sell the initial 100 shares for a loss. But aren’t you just swapping one price risk for another? And are taxes really the underlying motivation for adding to or liquidating a position? That’s a tough sell for many investors.
The key to filing taxes is being prepared. TD Ameritrade provides information and resources to help you navigate tax season.
Some investors might consider looking for securities that are “substantially equivalent” for their purposes but not in the eyes of the IRS. For example, if you hold an ETF that tracks a particular benchmark, you could sell it for a tax loss and buy a similar ETF in a different family of funds. But remember: Different funds have different managers and expense ratios and may have different commission structures (which is why the IRS might see them as not substantially identical).
There are apples-to-apples comparisons, and there are apples-to-oranges ones. You might think you’re selling a Red Delicious for a loss and buying a Golden Delicious when in fact you’re buying a Valencia orange. So be careful.
Wash sales can be complicated—the wash sale tax rules, the tracking, and the adjustment reporting can certainly turn into a real chore. In general, be aware of the factors that trigger a wash sale. That’s the best way to avoid being surprised by these adjustments come tax time. Need additional help? Have a look at the video below, visit the TD Ameritrade tax resources page, or give us a call. Client services are available 24/7. To speak with a tax services representative, call during standard business hours (Monday–Friday, 9 a.m. to 5:30 p.m. ET).
The alternative to education? Never sell at a loss and repurchase within the 61-day window, ever. No additional tracking required!
But that, of course, is easier said than done.
TD Ameritrade does not provide tax advice. We suggest you consult with a tax-planning professional with regard to your personal circumstances.
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