4 ms·

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

by 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.
      - dataflow 4y ago
        Do I understand correctly that you're basically saying low inheritance taxes are (most of) the justification for wash sale rules?
        jjeaff 4y ago
        No, I don't think inheritance tax factors in here that much. Wash sale rules don't really apply when using the step up basis loophole.
- twalla 4y ago
  The intent of disallowing wash sales is to stop people from gaming the system to strategically realize "fake" losses in one security to offset gains. If we allowed wash sales you could make 100 dollars in profit from your sale of stock A and then wash sale 10 shares of stock B at 10 dollars, down from 20 and say you made no money this year, when, effectively you made 100 dollars and you still have the same number of shares of stock B. The intent of performing the wash sale isn't to reduce your liability from proceeds of the future sale of whatever security you're trying to "wash", it's to use the wash to offset this year's gains from the sale of other securities.
  - dataflow 4y ago
    You're not accounting for the reduction in cost basis that would increase your future taxes though?
    - twalla 4y ago
      Like some other commenters have called out it kind of just kicks the can down the road, but the longer you can kick that can down the road the longer you can reap the benefits of compound interest.
      - MikePlacid 4y ago
        Yes, you and I would have reaped the benefits of compound interest - if the “wash sales” law is repealed. What’s wrong with that?
        anonymouskimmer 4y ago
        A couple of things wrong with wash sales: 1) I can't reap the benefit, because I don't have enough income to save for retirement (outside of my pension). If I did, like most people, I'd likely be saving in something like a 401(k) that is tax-deferred. Tax-deferred retirement accounts, by law, gain no additional tax benefit from a wash trade. https://www.irs.gov/newsroom/what-if-my-401k-drops-in-value https://www.irs.gov/newsroom/what-if-my-401k-drops-in-value 2) You incentivize people to sell and buy additional securities outside of their normal investment planning. This will have a market distorting effect when compounded over many, many stockholders.
- donmcronald 4y ago
  I think they defer as much as they can until they die and their heirs get to inherit with a stepped up cost basis and they never pay tax. Borrow, buy, die. If they’re really crafty, the heirs will overvalue assets when stepping up the cost basis so they can actually claim losses in the future. From Wikipedia: “The tax code of the United States holds that when a person (the beneficiary) receives an asset from a giver (the benefactor) after the benefactor dies, the asset receives a stepped-up basis, which is its market value at the time the benefactor dies (Internal Revenue Code § 1014(a)).”
  - actually_a_dog 4y ago
    Let's not forget how the US just conveniently doesn't go after the wealthy for tax fraud, because it's too difficult given they can hire armies of CPAs and lawyers to defend themselves.
    - berberous 4y ago
      The US does go after the wealth for tax fraud. I think the bigger issue is that the wealth pre-emptively hire CPAs/lawyers to take maximum advantage of tax rules in a way that may not be prohibited, innovating faster than legislators can act.
      - actually_a_dog 4y ago
        IRS Audits Few Millionaires But Targeted Many Low-Income Families in FY 2022: https://trac.syr.edu/reports/706/ https://trac.syr.edu/reports/706/
        berberous 4y ago
        The IRS may be underfunded, but it's misleading to say the IRS does not go after the wealthy for tax fraud. The chart in that article shows $1M+ earners to have the highest audit rate, albeit some of it correspondence audit, and says 25% of audit man hours are spent on millionaires.
- rfrey 4y ago
  I'm neither an accountant nor a billionaire, but it seems like wealthy people will always have a certain amount of stock that is in a loss position. So if the "washed" stock appreciates and they want to sell it, there will be other stocks in a losing position that can wash the washer. You can therefore defer those taxes indefinitely. This only makes sense to me if you have a very large, very diversified portfolio.
  - MikePlacid 4y ago
    > there will be other stocks in a losing position that can wash the washer. That is equivalent to “your stock portfolio will never grow”. > This only makes sense to me if you have a very large, very diversified portfolio. You do not need to own much of the stocks to observe a fall relative to the purchase price in a stock you want to keep. The original “wash sale” prohibition just complicates tax planning - for everyone. Since it’s mathematically absurd, it’s prone to loopholes. But you need to spend time to find the loopholes, so wealthy people are (and will) suffer less. “Wash sale” prohibition harms ordinary stock owners, like me, much more than it harms Steve Balmer.
    - anonymouskimmer 4y ago
      > That is equivalent to “your stock portfolio will never grow”. Realized gains are the only gains that are taxed. You aren't paying capital gains taxes on stocks when you aren't cashing them out. So if a person has $100 million in stocks, some of which are up, and some of which are down. Decides to take out $1 million for a birthday party. And then wash trades a million dollar "paper loss" in their portfolio to cover for the $1 million they cashed out. They'll still have practically the same portfolio, some of which has gained, and some of which has lost, minus the shares they sold to pay for the birthday party. If they invested well, it's possible that their overall portfolio has indeed gained. But thanks to the wash trade they don't have to pay any taxes on the $1 million in gains that they just cashed out. > “Wash sale” prohibition harms ordinary stock owners, like me, much more than it harms Steve Balmer. If you own it in a 401(k) or equivalent you can't claim capital gains losses as a deduction regardless (not until you start taking it out following retirement).

by twalla 4y ago

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.
    - dataflow 4y ago
      Do I understand correctly that you're basically saying low inheritance taxes are (most of) the justification for wash sale rules?
      - jjeaff 4y ago
        No, I don't think inheritance tax factors in here that much. Wash sale rules don't really apply when using the step up basis loophole.
twalla 4y ago
The intent of disallowing wash sales is to stop people from gaming the system to strategically realize "fake" losses in one security to offset gains. If we allowed wash sales you could make 100 dollars in profit from your sale of stock A and then wash sale 10 shares of stock B at 10 dollars, down from 20 and say you made no money this year, when, effectively you made 100 dollars and you still have the same number of shares of stock B. The intent of performing the wash sale isn't to reduce your liability from proceeds of the future sale of whatever security you're trying to "wash", it's to use the wash to offset this year's gains from the sale of other securities.
- dataflow 4y ago
  You're not accounting for the reduction in cost basis that would increase your future taxes though?
  - twalla 4y ago
    Like some other commenters have called out it kind of just kicks the can down the road, but the longer you can kick that can down the road the longer you can reap the benefits of compound interest.
    - MikePlacid 4y ago
      Yes, you and I would have reaped the benefits of compound interest - if the “wash sales” law is repealed. What’s wrong with that?
      - anonymouskimmer 4y ago
        A couple of things wrong with wash sales: 1) I can't reap the benefit, because I don't have enough income to save for retirement (outside of my pension). If I did, like most people, I'd likely be saving in something like a 401(k) that is tax-deferred. Tax-deferred retirement accounts, by law, gain no additional tax benefit from a wash trade. https://www.irs.gov/newsroom/what-if-my-401k-drops-in-value https://www.irs.gov/newsroom/what-if-my-401k-drops-in-value 2) You incentivize people to sell and buy additional securities outside of their normal investment planning. This will have a market distorting effect when compounded over many, many stockholders.
donmcronald 4y ago
I think they defer as much as they can until they die and their heirs get to inherit with a stepped up cost basis and they never pay tax. Borrow, buy, die. If they’re really crafty, the heirs will overvalue assets when stepping up the cost basis so they can actually claim losses in the future. From Wikipedia: “The tax code of the United States holds that when a person (the beneficiary) receives an asset from a giver (the benefactor) after the benefactor dies, the asset receives a stepped-up basis, which is its market value at the time the benefactor dies (Internal Revenue Code § 1014(a)).”
- actually_a_dog 4y ago
  Let's not forget how the US just conveniently doesn't go after the wealthy for tax fraud, because it's too difficult given they can hire armies of CPAs and lawyers to defend themselves.
  - berberous 4y ago
    The US does go after the wealth for tax fraud. I think the bigger issue is that the wealth pre-emptively hire CPAs/lawyers to take maximum advantage of tax rules in a way that may not be prohibited, innovating faster than legislators can act.
    - actually_a_dog 4y ago
      IRS Audits Few Millionaires But Targeted Many Low-Income Families in FY 2022: https://trac.syr.edu/reports/706/ https://trac.syr.edu/reports/706/
      - berberous 4y ago
        The IRS may be underfunded, but it's misleading to say the IRS does not go after the wealthy for tax fraud. The chart in that article shows $1M+ earners to have the highest audit rate, albeit some of it correspondence audit, and says 25% of audit man hours are spent on millionaires.
rfrey 4y ago
I'm neither an accountant nor a billionaire, but it seems like wealthy people will always have a certain amount of stock that is in a loss position. So if the "washed" stock appreciates and they want to sell it, there will be other stocks in a losing position that can wash the washer. You can therefore defer those taxes indefinitely. This only makes sense to me if you have a very large, very diversified portfolio.
- MikePlacid 4y ago
  > there will be other stocks in a losing position that can wash the washer. That is equivalent to “your stock portfolio will never grow”. > This only makes sense to me if you have a very large, very diversified portfolio. You do not need to own much of the stocks to observe a fall relative to the purchase price in a stock you want to keep. The original “wash sale” prohibition just complicates tax planning - for everyone. Since it’s mathematically absurd, it’s prone to loopholes. But you need to spend time to find the loopholes, so wealthy people are (and will) suffer less. “Wash sale” prohibition harms ordinary stock owners, like me, much more than it harms Steve Balmer.
  - anonymouskimmer 4y ago
    > That is equivalent to “your stock portfolio will never grow”. Realized gains are the only gains that are taxed. You aren't paying capital gains taxes on stocks when you aren't cashing them out. So if a person has $100 million in stocks, some of which are up, and some of which are down. Decides to take out $1 million for a birthday party. And then wash trades a million dollar "paper loss" in their portfolio to cover for the $1 million they cashed out. They'll still have practically the same portfolio, some of which has gained, and some of which has lost, minus the shares they sold to pay for the birthday party. If they invested well, it's possible that their overall portfolio has indeed gained. But thanks to the wash trade they don't have to pay any taxes on the $1 million in gains that they just cashed out. > “Wash sale” prohibition harms ordinary stock owners, like me, much more than it harms Steve Balmer. If you own it in a 401(k) or equivalent you can't claim capital gains losses as a deduction regardless (not until you start taking it out following retirement).