Unless you’re a novice investor, you’re probably aware of the “wash sale” rule. But you may not know all the ins and outs.
Strategy: Don’t be trapped by a quirk in the law. Despite a common misconception, the wash sale applies to sales occurring both before and after you acquire securities you sell at a loss. It’s not just sales after you acquire the securities.
It’s easy to miss the “before” part of the rule.
Here’s the whole story: The wash sale prohibits an investor from deducting a loss on the sale of securities if he or she acquires substantially identical securities within 30 days before or after the loss sale. The amount of any disallowed loss is added to the basis of the new securities.
Typically, a wash sale occurs when you sell securities you own and later buy back the same or similar securities within 30 days. But the rule can also apply if you acquire securities prior to the sale at a loss.
Example: You bought 1,000 shares of XYZ stock at $10 a share, for a total of $10,000, on May 1. XYZ is down slightly, but you think it’s going to rebound. So you buy 1,000 more shares at $9, for a total of $9,000, on Aug. 1. On Aug. 15, when XYZ drops to $6 a share, you sell your original 1,000 shares at a $4,000 loss. The wash sale rule prohibits you from claiming the loss for tax purposes because you acquired the same stock within 30 days of the loss sale.
Thus, the wash sale rule actually encompasses a period of 61 days—the day of the sale, the 30 days before the sale and the 30 days after the sale. Remember to count calendar days, not trading days.
Tip: Give yourself enough time to maneuver around the wash sale rule if you intend to harvest some tax losses around year-end.