What it means
In the United States, the wash sale rule disallows a loss deduction if an investor sells a security at a loss and buys the same or a substantially identical security within 30 days before or after the sale. The window is 61 days in all, including the day of the sale.
The purpose of the rule is to stop investors from creating a tax loss without changing their economic position. Without it, a person could sell at a loss to reduce a tax bill and immediately buy the same holding back.
The tax code does not give a complete list of what counts as substantially identical. The shares of one company and the shares of a different company are generally not, even in the same industry, but options, rights or convertible bonds on the same company's shares may be.
Funds are a grey area. Many advisers consider two funds that track different indexes to be different, while two funds tracking the identical index from different providers may raise questions, and there is no bright line.
Anyone in doubt should consult a tax professional. Context matters for businesses as well as individuals.
Companies, funds and trusts that realise losses near year-end face the same test, and automated rebalancing or dividend reinvestment can accidentally create a repurchase inside the window. Many firms therefore keep a watch list of recent loss sales.
The disallowed loss is not lost forever. It is added to the cost basis of the new shares, so it reduces the gain or increases the loss when the replacement shares are eventually sold.
Businesses and investors who manage portfolios for tax purposes need to watch the calendar, particularly near year-end.
In practice
Real-world examples.
Example
An investor sells shares of a retailer at a loss in December and buys the same shares back two weeks later. The loss is disallowed because the purchase falls inside the 30-day window. The investor adds the denied loss to the cost of the shares she bought back.
Example
A fund manager sells a bond at a loss and buys a convertible bond of the same company that converts into its shares. The tax adviser reviews whether the two are substantially identical before the manager claims the loss.
Example
An investor sells a technology fund at a loss and buys a fund tracking a different index. He waits for advice on whether the replacement is similar enough to risk the loss being disallowed. The adviser recommends keeping a written note of the reasoning in case the tax authority asks.
Formula
Calculation
When a loss is disallowed, the new holding's cost basis is adjusted:
New cost basis = Purchase price of replacement shares + Disallowed loss
An investor buys 100 shares at $50 for $5,000 and sells them at $40 for $4,000, a loss of $1,000. Twelve days later, she buys 100 identical shares at $41 for $4,100, so the $1,000 loss is disallowed. The new cost basis is $4,100 + $1,000 = $5,100, which means that if she later sells at $50 for $5,000, she records a loss of only $100 instead of a gain of $900.Case study
Seen in the real world.
Harlow Family Office is an illustrative, fictional firm that manages investments for several families. In late December, its analyst sold a holding in a manufacturing company at a $60,000 loss to offset gains elsewhere in the portfolio.
Ten days later, an automatic rebalancing instruction bought the same shares back. The firm's tax adviser spotted that the purchase fell inside the 30-day window, so the $60,000 loss was disallowed for that year and added to the basis of the new shares.
In this illustrative story, the firm changed its procedure so that replacement purchases are blocked for 31 days after a loss sale. It now buys shares of a different company in the same industry for that period, which keeps market exposure while remaining clear of the rule. After 31 days, it can switch back if the clients still prefer the original holding.
Watch out
Common mistakes.
- Counting only the days after the sale, when the rule also covers purchases made in the 30 days before.
- Forgetting that purchases in another account, such as a retirement account or a spouse's account, can also trigger the rule.
- Assuming a disallowed loss is gone for good, when it is added to the basis of the replacement shares.
Questions
People also ask.
What does substantially identical mean?
It means so similar in substance that an investor holding one is in nearly the same position as holding the other, and there is no complete official list.
Are shares of two different companies identical?
Generally no, though other features of the securities may need to be reviewed.
How long must I wait to avoid the rule?
You need to avoid buying the same or a substantially identical security during the period 30 days before and 30 days after the sale, which means waiting at least 31 days after selling if you want to buy it back.
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