The wash sale rule disallows a loss on the sale of stock or securities when the taxpayer acquires substantially identical stock or securities within a window that runs 30 days before the sale and 30 days after it. The loss is usually deferred rather than destroyed, because it moves into the basis of the replacement position. The statute is short enough to read whole:
In the case of any loss claimed to have been sustained from any sale or other disposition of shares of stock or securities where it appears that, within a period beginning 30 days before the date of such sale or disposition and ending 30 days after such date, the taxpayer has acquired (by purchase or by an exchange on which the entire amount of gain or loss was recognized by law), or has entered into a contract or option so to acquire, substantially identical stock or securities, then no deduction shall be allowed under section 165 unless the taxpayer is a dealer in stock or securities and the loss is sustained in a transaction made in the ordinary course of such business (26 U.S.C. 1091(a), 2024 edition).
The Window Runs in Both Directions
The most common error in practice is reading the window forward only. It is symmetric, and the regulation gives the combined period a name in its own words: within a period beginning 30 days before the date of such sale or disposition and ending 30 days after such date, “referred to in this section as the 61-day period” (26 CFR 1.1091-1(a)).
A purchase made three weeks before a loss sale triggers the rule just as a purchase three weeks after it does. A client who was accumulating a position through the autumn and then sold part of it at a loss in December has a wash sale on the earlier buys, with nothing done after the sale at all.
The section also tells the reader what its own subject term includes: for purposes of this section, the term “stock or securities” shall, except as provided in regulations, include contracts or options to acquire or sell stock or securities (26 U.S.C. 1091(a), 2024 edition).
Where the Disallowed Loss Goes
Disallowance is not the end of the loss in the ordinary case. If the property consists of stock or securities the acquisition of which, or the contract or option to acquire which, resulted in the nondeductibility under this section or corresponding provisions of prior internal revenue laws of the loss from the sale or other disposition of substantially identical stock or securities, then the basis shall be the basis of the stock or securities so sold or disposed of, increased or decreased, as the case may be, by the difference, if any, between the price at which the property was acquired and the price at which such substantially identical stock or securities were sold or otherwise disposed of (26 U.S.C. 1091(d), 2024 edition).
The IRS states the same mechanic in the form a preparer uses, and it states it with an exception attached. Add the disallowed loss to the cost of the new stock or securities, “except in (4) above”, and the result is the basis in the new stock or securities; that adjustment postpones the loss deduction until the disposition of the new stock or securities (IRS, Publication 550). Item (4) in the list the exception points back at is the acquisition of substantially identical stock for an individual retirement arrangement or Roth IRA, and what happens there is set out below.
The holding period travels with it. The holding period for the new stock or securities includes the holding period of the stock or securities sold (IRS, Publication 550), and how that tacking rule sits alongside the others is set out in holding period. The wider set of rules that can disallow a capital loss is in capital loss.
The One Case Where the Loss Does Not Come Back
Read the deferral rule with its exception attached, because the exception is where real money is lost. The instruction to add the disallowed loss to the cost of the new stock carries a carve-out for one of the four triggering acquisitions listed just above it, the acquisition of substantially identical stock for the taxpayer’s individual retirement arrangement or Roth IRA (IRS, Publication 550).
The IRS reached that conclusion on the ruling that put the question. Where an individual sells stock at a loss and causes an individual retirement account or a Roth IRA to purchase substantially identical stock within the window, the loss on the sale is disallowed, and the individual’s basis in the individual retirement account or Roth IRA is not increased by virtue of section 1091(d) (IRS, Rev. Rul. 2008-5). Disallowed and not restored anywhere is a different outcome from deferred, and it is the one clients arrange for themselves.
Who Triggers It Besides the Taxpayer
The rule reaches beyond the seller’s own brokerage account. If you sell stock and your spouse or a corporation you control buys substantially identical stock, you also have a wash sale (IRS, Publication 550).
Four acquisitions inside the window each trigger it: buying substantially identical stock or securities, acquiring them in a fully taxable trade, acquiring a contract or option to buy them, or acquiring substantially identical stock for an individual retirement arrangement or Roth IRA (IRS, Publication 550).
Substantially Identical Is a Facts Test, Not a Ticker Test
There is no bright line, and the publication says so before it says anything else. In determining whether stock or securities are substantially identical, all the facts and circumstances in the particular case must be considered (IRS, Publication 550).
Two default positions follow, and both are stated as ordinary rather than absolute. Ordinarily, stocks or securities of one corporation are not considered substantially identical to stocks or securities of another corporation, however they may be substantially identical in some cases, for example where the stocks and securities are those of a predecessor and a successor corporation in a reorganization. Similarly, bonds or preferred stock of a corporation are not ordinarily considered substantially identical to the common stock of the same corporation, however where the bonds or preferred stock are convertible into common stock of the same corporation, the relative values, price changes and other circumstances may make them substantially identical (IRS, Publication 550).
The publication then lists what makes convertible preferred stock substantially identical to the common: it is convertible into common stock, has the same voting rights as the common stock, is subject to the same dividend restrictions, trades at prices that do not vary significantly from the conversion ratio, and is unrestricted as to convertibility (IRS, Publication 550). Every one of those has to hold.
When the Share Counts Do Not Match
Partial repurchases are the ordinary case on a real client file, and the statute hands the matching question to regulations in both directions. Where the amount acquired is less than the amount sold, the particular shares whose loss is not deductible shall be determined under regulations prescribed by the Secretary; where the amount acquired is not less than the amount sold, the particular shares whose acquisition resulted in the nondeductibility shall be determined under regulations prescribed by the Secretary (26 U.S.C. 1091(b) and 1091(c), 2024 edition).
The IRS gives the ordering rule. Match the shares bought with an equal number of the shares sold, in the same order that they were bought, beginning with the first shares bought, and the shares so matched are subject to the wash sale rules (IRS, Publication 550). A sale of more shares than were repurchased is therefore part disallowed and part deductible, not all or nothing.
The Dealer Exception Reads Differently in the Statute and the Regulation
This is worth noticing rather than smoothing over. The statute allows the deduction where the taxpayer is a dealer in stock or securities and the loss is sustained in a transaction made in the ordinary course of such business (26 U.S.C. 1091(a), 2024 edition).
The regulation carries two carve-outs rather than one. The prohibition does not apply in the case of a taxpayer, not a corporation, if the sale or other disposition of stock or securities is made in connection with the taxpayer’s trade or business, or in the case of a corporation, a dealer in stock or securities, if the sale or other disposition of stock or securities is made in the ordinary course of its business as such dealer (26 CFR 1.1091-1(a)). A file that turns on this exception is one to take to the primary text rather than to a summary of it.
Short Sales Have Their Own Version
The section extends itself rather than leaving short positions out. Rules similar to the rules of subsection (a) shall apply to any loss realized on the closing of a short sale of, or the sale, exchange or termination of a securities futures contract to sell, stock or securities if, within a period beginning 30 days before the date of such closing and ending 30 days after such date, substantially identical stock or securities were sold, or another short sale of, or securities futures contracts to sell, substantially identical stock or securities was entered into (26 U.S.C. 1091(e), 2024 edition). Both triggering events are joined by “or”, so either one is enough.
Common Questions
The disallowance window ends 30 days after the sale, and it also began 30 days before it (26 U.S.C. 1091(a), 2024 edition). Waiting after the sale does nothing about a purchase already made inside the earlier half of the window, which is why the question has to be asked about both sides of the date.
It applies to a sale made outside one when the replacement is bought inside one, and the consequence there is worse than deferral. The loss on the sale is disallowed, and the individual’s basis in the individual retirement account or Roth IRA is not increased by virtue of section 1091(d) (IRS, Rev. Rul. 2008-5).
Yes, in both directions. The term “stock or securities” includes contracts or options to acquire or sell stock or securities, except as provided in regulations (26 U.S.C. 1091(a), 2024 edition), and the IRS applies the rules to losses from sales or trades of contracts and options to acquire or sell stock or securities, while stating that they do not apply to losses from sales or trades of commodity futures contracts and foreign currencies (IRS, Publication 550).
Yes. If you sell stock and your spouse or a corporation you control buys substantially identical stock, you also have a wash sale (IRS, Publication 550). A review that looks only at the seller’s own account will miss it.
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