Wash Sales and the Active Trader
The dreaded IRS wash sale rule is an absolute nightmare for active traders! When trading the same stocks, or options on those stocks, over and over again, hundreds or even thousands of wash sales may be generated throughout the tax year. Therefore, it becomes unbelievably cumbersome to calculate and record each and every wash sale on your IRS schedule d as required by law.
If you are going to read anything on this subject, please make sure you read the following two subjects:
- Wash Sales: How they affect me
This subject will educate you about just how potentially damaging the IRS wash rule can be for an active trader. You do not want to miss reading this one.
- Wash Sales: How to avoid
There are two simple rules that any trader can put into affect at the critical year end time frame that can potentially save thousands of dollars come tax time.
So, exactly what is the IRS Wash Sale Rule?
IRS publication 550 page 52 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:
- Buy substantially identical stock or securities,
- Acquire substantially identical stock or securities in a fully taxable trade, or
- Acquire a contract or option to buy substantially identical stock or securities.
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.
click here to get the full IRS publication 550 in PDF format
In plain English, this means that if you close a trade and take a loss, and then buy back the same, or "substantially" the same 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 stock.
If that trade now ends in a loss, and you buy the same stock again, the loss now 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 a loss, and do not stop trading for at least 31 days.
In addition, the holding period of your trade may also change thus changing the wash sales tax.
For those of you who have ever tried to calculate wash sales for an entire year's worth of trade activity, I don't need to tell you just how painful this can be. But the IRS expects you to record each and every wash sale that you may have as a result of this rule.
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