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I don't really understand how this works. So you buy stocks A and B in identical amounts, and A increases by the same amount that B drops. You need cash, so you

I don't really understand how this works. So you buy stocks A and B in identical amounts, and A increases by the same amount that B drops. You need cash, so you sell A, but you don't want to pay taxes on the gains on A, so you trade B to offset the losses. But that lowers B's cost basis, so the next time it rises, you'll have more of a tax liability than you did earlier, right? Whereas if you didn't trade B, you'd have avoided that difference. I feel like I'm not thinking it through sufficiently - how does repeating this process end up being a net benefit for you? Update/summary for those reading: The answer seems to be (if I understand the comments below correctly) that inherited assets' cost bases magically get stepped up to their fair market value without tax consequences, which would explain why kicking the can down the road is beneficial, as well as one reason why generational wealth is such an incredibly impactful loophole.

theGnuMe 4y ago
If you read the article it is straightforward. Companies have two securities that are "legally distinct" and you sell one for the tax loss and buy the other to keep your position.
- dataflow 4y ago
  My question was not about the tactic but about the strategy.
twalla 4y ago
It's more like this: stock A offers exposure to X (say resource extraction, pharma, tech, small cap growth.. whatever). Stock A also went down in value this tax year but you're still confident in your investment thesis, so you find stock B, which also has similar exposure, this could be a different ETF, a different company or even a different class of shares in the same company (sell GOOG buy GOOGL). You sell A to create a loss on paper and purchase B with your proceeds. This allows you to create paper losses to offset your tax liability from any sales that produced capital gains while keeping, roughly, the same allocation without violating the wash sale rule.
- dataflow 4y ago
  I guess perhaps what I'm not quite understanding is why wash sales are disallowed in the first place - because, again, if you lower the cost basis, you will be liable for the difference in the future, so why does it make a net difference?
  - thargor90 4y ago
    Because they never realize capital gains. Instead they take a loan and use the stock as collateral to get liquidity . They never pay back that loan, but just pay interest, which again lowers their taxable income.
    - missedthecue 4y ago
      They do pay capital gains, even if a loan differs it. If the individual dies before repaying the loan, their estate pays a tax rate much higher than capital gains as it cashes out assets to settle its debts. I'm not sure how, but the "margin debt is an infinite free money hack" somehow caught on and won't go away. It's not a free money hack, it's debt that must be repaid with income. Which is always taxable.
      - thargor90 4y ago
        I'm not sure how it works in the US , but there are plenty other jurisdictions were the estate is not required to settle debt but may just transfer it to the heir. There is also jurisdictions were there is no inheritance tax, which would otherwise require to sell at least some of the estate.
      - jjeaff 4y ago
        Nope.. It IS a free money hack for the wealthy. The stepped up basis happens the day of your death. So when the estate sells assets to cover the liabilities, the profit of the sale will be calculated by subtracting the new stepped up basis from the sale price (effectively $0) so no tax. Additionally, the wealthy will usually leave only enough assets in the estate to cover the liabilities plus maybe some more up to the estate tax threshold so it goes through tax free to the heirs. The rest will have been distributed through various other methods to avoid taxation.
berberous 4y ago
You are right that it defers, but does not eliminate, taxes; however: 1. You can use losses to offset $3k of ordinary income per year. 2. Tax deferral is still advantageous. For example, you can defer until retirement when your tax bracket is lower, and also allow that amount to compound in the meantime. 3. If you die, your heirs get a step up in basis, so the tax is in fact ultimately avoided.
- MikePlacid 4y ago
  Re 2 - we are talking about stocks, they are taxed independently of your tax bracket. Tax % on stocks changes only when law changes, and this can only rise, given our current situation. Overall, the article is against tax planning, picturing it (deliberately? due to math incompetence?) as tax avoidance. You do not need to be Steve Balmer to wish to use some tax planning, ask me how I know - and I am just a software engineer.
- dataflow 4y ago
  For a billionaire, (1) and (2) seem basically irrelevant; if they're loopholes at all, they seem to favor the non-billionaires. That leaves us with (3), which baffles me - if the cost basis is allowed to rise without paying any taxes (?!) then isn't that the real source of the problem, rather than the wash sale? I feel like I must be missing something here - why get angry over wash sales and prohibit them if the real issue is something else entirely? Shouldn't inheritance basis step-up be the real subject of discussion?
  - credit_guy 4y ago
    > if the cost basis is allowed to rise without paying any taxes (?!) It's a common misconception that the step-up in basis means the heirs don't pay taxes, and therefore the billionaires are giving us the biggest shaft. The heirs pay estate tax, and once they pay the tax, the basis resets. It would be very unfair if it didn't. However, the tax exemption for the estate tax is quite large (about $13MM for federal for 2023, but going to $7MM in 2026). For billionaires though, the estate tax exemption is negligible. The heirs end up paying estate tax for everything they inherit minus $13MM, which is nothing for them. So, again, if this benefits anyone, it's the less rich people.
seanhunter 4y ago
It's not that. Let's take a concrete example given in the article. BHP group. You can buy BHP shares in 3 different primary listings. BHP.L[1] (on the LSE, listed in GBp), BHP[2] (on the NYSE, listed in USD) or BHP.AX[3] (listed in AUD on the ASX). These are fundamentally the exact same shares in the same company, but are listed in different countries. The only difference between them is the listing currency you pay to buy/receive on sale. When you receive the shares you actually get the same exact ISIN (I believe). So say you hold some BHP and its price is underwater at the moment. You believe in the long-term prospects of the company and have made profits in general that you have to pay tax on. You could sell the BHP, realise the loss (offsetting these other taxes to an extent) and buy again. However that "bed and breakfasting" (as it used to be called in the UK) has been declared illegal. If you were to sell in the US and then immediately buy on any US market that would be illegal. But if you sell in the US and then buy in London or Sydney (in this example) that is allowed. How the tax advantage works is you are literally taking an extra mark-to-market loss and offsetting that against other profits. Yes if you instead held and eventually made a profit you would pay less in that scenario, but in that scenario you are paying in future dollars whereas with the offsetting you are gaining today's dollars. Today's dollars are more value because of discounting. [1] https://finance.yahoo.com/quote/BHP.L?p=BHP.L&.tsrc=fin-srch https://finance.yahoo.com/quote/BHP.L?p=BHP.L&.tsrc=fin-srch [2] https://finance.yahoo.com/quote/BHP?p=BHP&.tsrc=fin-srch https://finance.yahoo.com/quote/BHP?p=BHP&.tsrc=fin-srch [3] https://finance.yahoo.com/quote/BHP.AX?p=BHP.AX&.tsrc=fin-srch https://finance.yahoo.com/quote/BHP.AX?p=BHP.AX&.tsrc=fin-sr...

theGnuMe 4y ago

If you read the article it is straightforward. Companies have two securities that are "legally distinct" and you sell one for the tax loss and buy the other to keep your position.

dataflow 4y ago
My question was not about the tactic but about the strategy.

twalla 4y ago

It's more like this: stock A offers exposure to X (say resource extraction, pharma, tech, small cap growth.. whatever). Stock A also went down in value this tax year but you're still confident in your investment thesis, so you find stock B, which also has similar exposure, this could be a different ETF, a different company or even a different class of shares in the same company (sell GOOG buy GOOGL). You sell A to create a loss on paper and purchase B with your proceeds. This allows you to create paper losses to offset your tax liability from any sales that produced capital gains while keeping, roughly, the same allocation without violating the wash sale rule.

dataflow 4y ago
I guess perhaps what I'm not quite understanding is why wash sales are disallowed in the first place - because, again, if you lower the cost basis, you will be liable for the difference in the future, so why does it make a net difference?
- thargor90 4y ago
  Because they never realize capital gains. Instead they take a loan and use the stock as collateral to get liquidity . They never pay back that loan, but just pay interest, which again lowers their taxable income.
  - missedthecue 4y ago
    They do pay capital gains, even if a loan differs it. If the individual dies before repaying the loan, their estate pays a tax rate much higher than capital gains as it cashes out assets to settle its debts. I'm not sure how, but the "margin debt is an infinite free money hack" somehow caught on and won't go away. It's not a free money hack, it's debt that must be repaid with income. Which is always taxable.
    - thargor90 4y ago
      I'm not sure how it works in the US , but there are plenty other jurisdictions were the estate is not required to settle debt but may just transfer it to the heir. There is also jurisdictions were there is no inheritance tax, which would otherwise require to sell at least some of the estate.
    - jjeaff 4y ago
      Nope.. It IS a free money hack for the wealthy. The stepped up basis happens the day of your death. So when the estate sells assets to cover the liabilities, the profit of the sale will be calculated by subtracting the new stepped up basis from the sale price (effectively $0) so no tax. Additionally, the wealthy will usually leave only enough assets in the estate to cover the liabilities plus maybe some more up to the estate tax threshold so it goes through tax free to the heirs. The rest will have been distributed through various other methods to avoid taxation.

berberous 4y ago

You are right that it defers, but does not eliminate, taxes; however: 1. You can use losses to offset $3k of ordinary income per year. 2. Tax deferral is still advantageous. For example, you can defer until retirement when your tax bracket is lower, and also allow that amount to compound in the meantime. 3. If you die, your heirs get a step up in basis, so the tax is in fact ultimately avoided.

MikePlacid 4y ago
Re 2 - we are talking about stocks, they are taxed independently of your tax bracket. Tax % on stocks changes only when law changes, and this can only rise, given our current situation. Overall, the article is against tax planning, picturing it (deliberately? due to math incompetence?) as tax avoidance. You do not need to be Steve Balmer to wish to use some tax planning, ask me how I know - and I am just a software engineer.
dataflow 4y ago
For a billionaire, (1) and (2) seem basically irrelevant; if they're loopholes at all, they seem to favor the non-billionaires. That leaves us with (3), which baffles me - if the cost basis is allowed to rise without paying any taxes (?!) then isn't that the real source of the problem, rather than the wash sale? I feel like I must be missing something here - why get angry over wash sales and prohibit them if the real issue is something else entirely? Shouldn't inheritance basis step-up be the real subject of discussion?
- credit_guy 4y ago
  > if the cost basis is allowed to rise without paying any taxes (?!) It's a common misconception that the step-up in basis means the heirs don't pay taxes, and therefore the billionaires are giving us the biggest shaft. The heirs pay estate tax, and once they pay the tax, the basis resets. It would be very unfair if it didn't. However, the tax exemption for the estate tax is quite large (about $13MM for federal for 2023, but going to $7MM in 2026). For billionaires though, the estate tax exemption is negligible. The heirs end up paying estate tax for everything they inherit minus $13MM, which is nothing for them. So, again, if this benefits anyone, it's the less rich people.

seanhunter 4y ago

It's not that. Let's take a concrete example given in the article. BHP group. You can buy BHP shares in 3 different primary listings. BHP.L[1] (on the LSE, listed in GBp), BHP[2] (on the NYSE, listed in USD) or BHP.AX[3] (listed in AUD on the ASX). These are fundamentally the exact same shares in the same company, but are listed in different countries. The only difference between them is the listing currency you pay to buy/receive on sale. When you receive the shares you actually get the same exact ISIN (I believe). So say you hold some BHP and its price is underwater at the moment. You believe in the long-term prospects of the company and have made profits in general that you have to pay tax on. You could sell the BHP, realise the loss (offsetting these other taxes to an extent) and buy again. However that "bed and breakfasting" (as it used to be called in the UK) has been declared illegal. If you were to sell in the US and then immediately buy on any US market that would be illegal. But if you sell in the US and then buy in London or Sydney (in this example) that is allowed. How the tax advantage works is you are literally taking an extra mark-to-market loss and offsetting that against other profits. Yes if you instead held and eventually made a profit you would pay less in that scenario, but in that scenario you are paying in future dollars whereas with the offsetting you are gaining today's dollars. Today's dollars are more value because of discounting. [1] https://finance.yahoo.com/quote/BHP.L?p=BHP.L&.tsrc=fin-srch https://finance.yahoo.com/quote/BHP.L?p=BHP.L&.tsrc=fin-srch [2] https://finance.yahoo.com/quote/BHP?p=BHP&.tsrc=fin-srch https://finance.yahoo.com/quote/BHP?p=BHP&.tsrc=fin-srch [3] https://finance.yahoo.com/quote/BHP.AX?p=BHP.AX&.tsrc=fin-srch https://finance.yahoo.com/quote/BHP.AX?p=BHP.AX&.tsrc=fin-sr...