The Wash Sale Rule

Investors and regular Traders in Securities are both subject to the wash sale rule. M2M Traders in Securities and Dealers are generally exempt from the Wash Sales Rules for those securities used in their business. This IRS rule (§1091 & §267) limits and defers the current deduction of losses in actively traded securities for the trader herself and her family if you buy and sell substantially the same security within a 61-day window (also referred to as being from “30 days before the sale until 30 days after the sale”).

This includes common & preferred stocks and sometimes even the put & call options on those stocks, put & call options on other stocks, digital (crypto) currency and debt instruments – but excludes futures contracts and foreign currencies. Even if a stock is sold and bought on the same day, the wash sale can apply to that transaction. Short sales likewise are subject to the rule. Creative “games” like a wife selling her stock followed by a purchase by her husband or by a family controlled corporation or an IRA, also result in a deferred (or disallowed) tax-loss. As you can imagine, this can be a real nightmare for active traders who concentrate in just a few different stocks.

Once a transaction’s loss is deferred because of the wash sale rule the basis of the stock currently acquired/held is adjusted upward by the amount of the deferral. The next transaction involving those shares, be it the next day or the next year, utilizes the new higher adjust tax-basis. Therefore, if the entire position is subsequently liquidated and you further remain out of the stock for the next 31 consecutive days, the entire deferred loss will generally be recognized for tax-purposes through the increase in basis used to compute the final gain or loss. But if you should re-enter the position within the 31 following days you may again find the wash sale rule comes into play. For active traders this can go on and on and on.

One unofficial “trick” to avoid some or all of the annual headache is to stop trading and/or holding any and all positions for a 31 consecutive day period that includes December 31st. If you do this at both the beginning and the end of any given calendar year, generally, you can just ignore the wash sale rule with relative impunity. (this isn’t really a “trick”, it’s just “in the math” of counting days pursuant to the rule)

As is usual in the tax law, there are numerous exceptions with this “trick”. If you do trade or hold a stock in either 31-day period (the one at the beginning of the year or the one at the end of the year) you will need to review that stock for the whole year to see how the wash sale effects you.

Even if you have no positions or activity at all during both 31-day periods (the one at the beginning of the year or the one at the end of the year) there are rare circumstances where the wash sale could still have some effect. For example, if (for some unrelated reason) you need to compute your income for only part of the year – then the wash sale, technically speaking, should not be ignored during the year. But if you are like most folks, this situation almost never comes up. For those who are curious – typically the need to compute your income for part of the year might arise due to death; divorce; marriage; other contractual issues; s-corp. issues; when trying to minimize or eliminate an estimated tax penalty by using the annualized income installment method; when new tax rate changes become effective in mid-year, and so on.

Another exception is found when closing a short sale at a loss.  When closing the short sale at a loss the settlement date is used, but when opening a short sale the trade date is used.  Due to this anomaly, several days may need to be added to the 31-day rule.

The good news is that Securities Traders properly electing mark-to-market under IRC §475 are not subject to the above wash sale rule on those securities covered by their mark-to-market election. i.e. any of their separate unrelated investment securities will continue to be subject to the wash sale rule.

Cryptocurrency sold at a loss is not subject to the wash sale rule, therefore if you can sell your losses on Monday and buy the same cryptocurrency right back on Tuesday to lower your capital gains for 2021. The wash sale rule applies to assets classified as securities, bonds, ETFs as well as other financial instruments that are traded on organized exchanges. Cryptocurrency doesn’t satisfy this requirement. Therefore, investors may close a position and lock in a capital loss even if they immediately make a repurchase without having to wait 31 days. Of course, if you believe that your tax rate will be higher in 2022 this idea might not be one for you.  2021 may be the last year that cryptocurrency is exempt from the wash sale rule, Congress is likely closing this loophole in the near future.

Wash Sales and IRA’s
Based on discussions here at TraderStatus.com and at Fairmark.com, on December 20, 2007 the IRS issued an advance copy of Rev. Rul. 2008-5, 2008-3 I.R.B. ___ (1/22/08), (Rev. Rul. 2008-5 was then finalized on January 22, 2008) which applies the §1091 wash sale rules where a taxpayer sells stock or securities at a loss and then causes her IRA to purchase substantially identical stock or securities within thirty days. As a result, the loss on the sale is disallowed and the taxpayer’s basis in the IRA is not increased.
http://www.fairmark.com/news/07122002-wash-IRA.htm
http://rubinontax.blogspot.com/2007/12/wash-sale-rule-loophole-closed.html

The reverse has not yet addressed to our knowledge: Per this example: What if an IRA closes a long position at a substantial loss?  And then within 30 days the taxpayer buys the identical position in an account outside of the IRA?  And then shortly thereafter closes that position?  Was the tax basis for that position increased by the IRA’s wash sale loss?  And therefore there is a tax-deductible loss (subject to the $3,000 per year rule) outside of the IRA.

To summarize: (A) the trader’s M2M account generally should avoid having the same positions at the same time (+/- 31 days) as found in ANY non-M2M account that the trader or a related party MIGHT be deemed to control or have any influence over.

(B) that a person’s retirement account (such as an IRA or 401(k)) generally should avoid having the same positions at the same time (+/- 31 days) as in ANY account that you or a related party MIGHT be deemed to control or have any influence over.

Excellent links that discuss the wash sale rule:
Some of these links include the opinions of their authors
(keep in mind that these links may not be updated and could get stale):


There are special rules for “§1256 Contracts” which are beyond this page’s discussion. §1256 includes: regulated futures contracts, foreign currency contracts, non-equity options, dealer equity options and dealer securities futures contracts. This are generally reported on IRS form 6781

A typical story from Wash-Sale Hell
I was an active day trader. At the end of the year, I had lost several thousand dollars. I’m currently being audited for that year and, because of the wash sale rule, the IRS wants to push my losses into 1997. Instead of a 1996 loss, they claim I had a capital gain of almost $250,000, creating a tax liability of more than $80,000. On top of this, they want to charge me almost $40,000 in interest, including interest for the 19 months it has taken for them to complete their review of my return!

This seems grossly unfair to me, and I am in the process of fighting their determination and would like to change the wash sale rules so that they don’t apply to active traders. If you have a horror story about trading and the IRS, please send me a message.

http://groups.google.com/groups?q=traderstatus&hl=en&lr=&ie=UTF-8&oe=UTF-8&selm=3BA1024F.FCED27FC%40noyahoo.com&rnum=5

500.12 Stock sold to reduce holdings. The deduction of a loss sustained on the sale of a portion of the shares of stock or other securities purchased in one lot less than 30 days before the sale will not be disallowed merely because the sale is of a part of that lot. However, the deduction will be disallowed if the taxpayer, in another transaction occurring within the period beginning 30 days before the date of the sale and ending 30 days after such date, has acquired or has entered into a contract or option so to acquire, additional substantially identical stock or securities. §1.109–1. (Sec. 1091, ’86 Code.) Rev. Rul. 56-602, 1956-2 C.B. 527.