Navigating the Wash Sale Rule: What Investors Need to Know

Tax-loss harvesting can be a savvy strategy for investors looking to offset gains, but it comes with its own set of rules—particularly the wash sale rule. Here’s a breakdown of what investors should understand about the wash sale rule:

How Does the Wash Sale Rule Work?

• Selling a security at a loss and repurchasing the same or substantially identical security within 30 calendar days before or after the sale triggers the wash sale rule.
• The loss from the sale is disallowed for tax purposes, but it gets added to the cost basis of the repurchased security.
• The holding period of the original security also gets tacked onto the holding period of the replacement security.

Example:

• Selling 100 shares of XYZ stock for a $200 loss, then repurchasing 100 shares within three weeks triggers a wash sale.
• The $200 loss is added to the cost basis of the repurchased stock, potentially lowering future gains and tax obligations.

Securities Covered:

• Stocks, ETFs, mutual funds, and options with a CUSIP number are generally subject to the wash sale rule.

Avoiding Wash Sales:

• Investors can replace a sold security with a similar, but not substantially identical, security to avoid triggering the wash sale rule.
• Determining what constitutes “substantially identical” requires investor judgment.

Considerations Across Accounts:

• The wash sale rule applies across all accounts, including IRAs and accounts with different brokers.
• Investors are responsible for tracking wash sales across their accounts.

Calendar Year Considerations:

• Wash sale rules aren’t confined to the calendar year, so selling a security at a loss in December and repurchasing in January still triggers the rule.

Understanding the wash sale rule is crucial for investors engaging in tax-loss harvesting to ensure they maximize tax benefits without running afoul of IRS regulations.