Key Takeaways
- Loss disallowed if repurchased within 30 days.
- Adjusts new shares' cost basis upward.
- Applies to stocks, funds, options, and IRAs.
- Prevents tax-loss harvesting without real exit.
What is Wash Sale?
A wash sale occurs when you sell a security at a loss and repurchase substantially identical securities within 30 days before or after the sale, creating a 61-day window. This transaction disallows the tax deduction for the loss under IRS rules, preventing artificial tax benefits. The rule applies broadly to stocks, bonds, and other securities like warrants.
This mechanism ensures losses are recognized only when there is a genuine change in your economic position, maintaining tax fairness.
Key Characteristics
Understanding the main features of wash sales helps you avoid unintended tax consequences.
- Substantially Identical Securities: Repurchasing the same or very similar securities within the 61-day window triggers the rule, including purchases of ETFs such as SPY or IVV.
- Loss Disallowance: The loss on the original sale is disallowed for immediate tax deduction but added to the cost basis of the new shares.
- Applies to Various Securities: The rule covers stocks, ETFs, bonds, options like call options, and mutual fund shares such as A-shares.
- IRS Reporting: Brokerages report wash sales on Form 1099-B, Box 1g, to help you track disallowed losses.
How It Works
When you sell a security at a loss and buy substantially identical securities within 30 days before or after the sale, the IRS disallows the loss deduction for that tax year. Instead, the disallowed loss is added to the cost basis of the newly acquired securities, deferring the benefit until you sell again without triggering the wash sale.
This rule applies even if the repurchase occurs in tax-advantaged accounts or by related parties like your spouse. For example, if you buy an ETF like VOO immediately after selling a similar ETF at a loss, the wash sale rule defers your loss recognition.
Examples and Use Cases
Wash sales commonly occur in various investment scenarios involving stocks, ETFs, and options.
- ETF Trading: Selling shares of SPY at a loss and purchasing IVV within the wash sale window can trigger the rule due to their similar exposure.
- Stock Transactions: Selling shares of a company like VOO at a loss and reacquiring the same shares quickly will disallow the loss deduction.
- Options and Warrants: Using call options or warrants tied to the same stock can also trigger wash sales if exercised or purchased within the window.
Important Considerations
To avoid wash sales, you should wait at least 31 days before repurchasing substantially identical securities. Alternatively, consider buying similar but not identical securities, though the IRS may still challenge this approach. Tracking your trades across taxable accounts and IRAs is crucial since wash sales triggered in one account affect others.
Understanding the wash sale rule helps you manage tax-loss harvesting effectively and comply with IRS regulations. For a deeper dive on related tax rules, consult the explanation of IRC Section 1092.
Final Words
A wash sale disallows immediate loss deductions when repurchasing substantially identical securities within 30 days, but the loss adjusts your new cost basis for future tax benefits. Review your recent trades to identify potential wash sales and adjust your records accordingly to avoid surprises at tax time.
Frequently Asked Questions
A wash sale happens when you sell a security at a loss and buy a substantially identical one within 30 days before or after the sale, disallowing the tax deduction for that loss. This IRS rule ensures losses are only claimed when there's a genuine economic change, preventing tax manipulation.
The wash sale rule applies to stocks, bonds, mutual funds, ETFs, options, contracts, warrants, and other securities sold at a loss in taxable accounts. It also includes purchases made in IRAs and actions by spouses or controlled entities within the 61-day window.
If a loss is disallowed due to a wash sale, that loss amount is added to the cost basis of the newly purchased shares. This defers your tax deduction until you sell those shares in a future transaction that isn’t a wash sale.
Generally, the wash sale rule applies to substantially identical securities, so buying a similar but not identical security, like a different ETF tracking the same index, usually avoids triggering the rule. However, it’s best to consult a tax advisor to confirm.
Yes, if your spouse buys the same or substantially identical security within the 30-day window before or after your sale at a loss, the wash sale rule applies and disallows the loss deduction.
Purchasing the same security in an IRA within the wash sale period disallows the loss, and unlike taxable accounts, the loss may be permanently lost since the IRA’s cost basis can’t be adjusted.
To avoid a wash sale, wait at least 31 days after selling a security at a loss before repurchasing it or a substantially identical one. Alternatively, you can buy a different security that isn’t considered substantially identical.
Yes, brokerages report wash sales on Form 1099-B, specifically in Box 1g, which helps taxpayers and the IRS track disallowed losses and adjusted cost bases.
