Wash-sale rule: What to avoid when selling your losing investments

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Investors looking to write off any capital losses should be wary of “wash sales,” which can derail their attempt to claim a deduction during tax season. A fire sale is one of the most important pitfalls to avoid if you’re trying to take advantage of tax loss harvesting to lower your taxes, and in bear markets it can be valuable to make sure you don’t break the rules.

What is a wash sale?

A wash sale occurs when you sell an asset, such as a stock or bond, at a loss but purchased the same asset or a very similar asset within 30 days before or after the sale. A wash sale makes it appear as if you have sold your position and disposed of the property, when in reality you have not.

If you claim to have lost money on the sale of an asset, but it is actually part of a “wash sale,” the Internal Revenue Service (IRS) will not allow you to claim a write-off on your tax return until you have fully recovered the position. to leave .

The wash sale rule applies to stocks, bonds, mutual funds, ETFs, options, futures and warrants.

However, the wash-sale rule does not apply to cryptocurrency, at least not yet. So crypto traders looking to claim tax deductions can literally sell their investment and immediately buy it back and still benefit from tax loss harvesting.

How to avoid breaking the wash sale rule

Normally, the IRS allows you to write off your capital losses and allows you to use losses to offset any capital gains. In fact, you can write off a net loss of up to $3,000 in a given year if you have qualifying losses. This means that the tax rules allow you to more than offset any gains. Smart investors use losses strategically to minimize their taxable income through tax loss harvesting.

However, if you have a wash sale, you can’t claim the depreciation until you eventually sell the asset and avoid buying it back for at least 30 days. After that period, you can repurchase the asset without the wash sale rules coming into effect. Of course, if you lose money on this buyback and resell it, you should wait another 30 days before buying the asset back to avoid a wash sale.

However, don’t worry about losing your tax benefit forever because of the wash-sale rule. The ability to claim your loss is only postponed and not eliminated. Don’t repurchase the asset within the 30 day period, and you can safely claim the loss on your tax return and without further penalties.

4 sneaky solutions to laundry sales that don’t work

Investors sometimes think they can get around the wash sale rule with some clever moves, but the IRS regularly allows these maneuvers. Here are some of the most popular.

1. You sell at a loss while your spouse buys

The wash-sale rule applies to both you and your spouse as if you were a unit. For example, you may not claim a loss if your spouse repurchases the property within the 30 day period.

This rule also applies to a company you control. So you can’t have the business bought while you’re selling and still claim the loss as a deduction.

2. You sell at a loss, but buy again in a retirement account

You may not sell an asset for a loss in a taxable account and then repurchase it within a 30-day period in a retirement account such as a 401(k) or an IRA and still claim a loss in the taxable account.

It’s also important to note that you can’t claim tax losses in tax-advantaged retirement accounts, so other wash-sale rules don’t apply when trading within those accounts.

3. Sell at the end of the year and buy again when January starts

Tax loss harvesting is one of the most popular tax reduction strategies, but those doing this near the end of the year will want to pay particular attention to this rule. You only have until the end of the calendar year to position your portfolio to comply with regulations. So you must write off laundry sales before December 31 in order to claim any losses on that year’s tax return.

But don’t think that once the new year starts you can repurchase the asset within 30 days without running afoul of the law. Your brokerage provides oversight, and the delay between the end of the year and when your taxes are due gives your company enough time to accurately report your account.

4. You purchase the asset you want to sell less than 30 days in advance

Some investors may think they can reverse the sequence of a wash sale, buying more of the asset before later selling less than 30 days later and declaring a loss on it. But the IRS does not allow this activity because you are not allowed to buy 30 days before or after the sale and still claim a loss.

For example, imagine you have 100 stocks on which you lost money. Knowing that you want to sell your current position at a loss, you buy another 100 shares. Less than 30 days later, you sell the original 100 shares at a loss. This transaction still counts as a wash sale.

Given their frequent trading of securities, day traders may want to pay special attention to wash-sale rules because they are likely to encounter this problem.

Is the sale of detergents illegal and what are the penalties?

It’s worth noting that it’s not illegal to do a wash sale. However, it is illegal to claim a tax write-off for a wash sale. You can create as many wash sales as you want over the course of the year. But you can’t claim them as deductible losses for tax purposes until you eventually sell your position and don’t repurchase the asset for at least the 30-day period.

The IRS won’t allow your loss and you won’t be able to claim a write-off on your tax return. You will ultimately owe taxes on any income you tried to offset with your laundry sales. If you are not current on your taxes, you may face typical penalties for non-payment, including penalties.

Tax consequences of a wash sale

If you have a laundry sale, you won’t be allowed to claim the loss on your taxes. Instead, you don’t have to add the loss to your cost basis in the new position. When you sell the new stake, you can claim the loss. Let’s look at an example to see how it works.

For example, let’s say you have 100 shares of XYZ stock that you bought for $10 per share, or $1,000 in total. You sell the shares for $8 per share and buy 100 shares again 23 days later for $7 per share. Because you repurchased the inventory within the 30 day period, you have a wash sale.

So you cannot claim a loss on the first lot of 100 shares, and you will have to add the disallowed loss to the cost basis of your new 100 shares. In this case, your initial loss of $200 is added to your new purchase of $700 ($7 * 100 shares), meaning your new cost basis is $900. Your capital gains tax is calculated based on this adjusted cost basis.

Your agent will generally (but not always) calculate wash sales for you, so you usually don’t have to do this yourself. But if you want to optimize your tax losses, you may want to know exactly where you stand at the end of the year so you can claim all possible losses.

If you accidentally (or intentionally) write off the loss on a wash sale, the IRS will recalculate your taxes and charge you the difference. Remember, the IRS has the same numbers that your real estate agent provides you. You will therefore have to cover any difference in taxes resulting from the error.

In short

It’s not difficult to avoid the wash-sale rule, but if you trade in and out of stocks regularly, it can be easy to forget about it. Rather than adding up your losses and gains during the year, it may be easiest to simply close any position for which you want to claim a loss and then not repurchase the asset for the full 30 days. Some investors may zero out their balance at the end of November, avoid these assets in December, and be ready to trade again in January.