From: pearson_steven@tandem.com (Steven R. Pearson)
Subject: FAQ -- Wash Sale Rule
Organization: Tandem Computers Inc.,  Cupertino, CA
Date: Mon, 5 Oct 1992 23:23:06 GMT


Hi, all.
  In partial response to recent requests for FAQs on misc.invest, here is the one I am
working on.  This message is cross-posted to misc.taxes.  This is work in progress, and has
been barely updated since I first posted it this spring.  Please feel free to comment or
suggest improvements.

  The information contained herein is related to US tax regulations, and may not be
of interest to those who live/work outside the US.  However, I did not limit the
distribution because there are some who live outside the US who are still affected
by US tax law.  If you feel this is inappropriate, please let me know and I might
reconsider the next time I post.
  -steve p.
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Q:  What is the "wash sale rule," and how is it applied?

A:  The "wash sale rule" is an IRS rule that limits ones ability to claim capital
losses in certain circumstances when identical shares are sold and repurchased
within a short time period.

  (1)  A wash sale occurs when you sell and buy essentially identical
         securities and the sale and purchase are within 30 days of each
         other.  In the funny way the IRS counts, you start counting from
         the day AFTER or BEFORE, depending on which way you are
         going, so you may see this quoted as being 31 days.  For example,
         If you sell shares of XYZ on January 1, and buy shares of XYZ on
          January 31 of the same year, you have a wash sale.  This is probably
         the most common case (sell then repurchase within 30 days).  However,
         if you buy shares of ACME on July 1 and sell different shares of ACME
         on or before July 31 of the same year, you have also executed a wash sale.

  (2)  If a wash sale results in a loss, that loss receives "special" tax treatment.
         However, if a wash sale results in a gain, the gain receives no special
         treatment.

         In either case, the rules work "in favor of the IRS" (who woulda guessed it?).
          Basically, you must take your (potentially short-term) gains, and you must
          defer declaring your (potentially short-term) losses.  Most tax wisdom says
          try to hold off declaring you gains and accelerate your losses, but the IRS
          doesn't let you in this case.

          Why this rule?  Well, if you'll allow me to hazard a guess...  The IRS
           doesn't want people writing off "fake" losses.  In order to claim a loss,
           you really gotta convince them that you were seriously out of the
           security.  You gotta take at least a little risk that it goes up on you while you
           are on the sidelines.  If you could sell and buy on the same day at the same price,
           that would be the epitomy of a wash sale.  You didn't really want to get rid of the
           security, you probably just wanted to take a loss for tax purposes (the
           offsetting gain to be taken some years down the road, and perhaps with
           more favorable tax treatment, etc.).  So, the IRS says "No way, Pal!"

   (3)    In the case of a loss, although you are not allowed to report it and "deduct"
            it from any similar (ST or LT) gains, you are allowed to adjust the basis
           of the newly purchased (or replacement) shares by the amount of the
           disallowed loss.

  (4)    For purposes of the holding period calculation (to determine short
           versus long term gains/losses), the holding period of the "old" securities
          is added to the holding period of the "new" securities after a wash sale
          loss is deferred.  (Sorry folks, you can't use a wash sale to convert long
           term losses into short term losses.)

   (5)   Losses from a wash sale of one block of shares can NOT be used to offset
           gains from another block of shares sold on the same day.  Example:
           Let's say you bought 100 shares of ZZZ for $1000 ($10/sh) and later bought
           100 more for $2000 ($20/sh).  You sell all 2000 at $18/sh.  Within 30 days
            before or after the sale you buy/bought 1000 other shares of ZZZ at any
            price.  The sale is treated as (1) a sale for gain of the 1000 shares bought
            at $10/share, and (2) a wash sale with respect to the 1000 shares bought at
            $20/share.  You can not treat this as a single transaction of selling 2000 shares
            for a net gain of $600.  It is a gain of $800, and you hold 1000 shares
            with an adjusted basis of (new purchase price + $200 + any commission
            paid on the wash sale of 1000 shares).

Ref:  IRS Pub 550, check here for additional details such as the definition of
"identical securities".  Information is indexed under "Wash Sales" and also
under "Holding Period."  In 1990 version, that's pages 37 and 45.

Note that participation in certain stock purchase programs, such as an ESPP
(employee stock purchase plan), increase the likelihood that a wash sale will occur.
This is because the regular stock purchases result in a large percentage of days
being included within the wash sale time frame.  In addition, if stock is purchased at
a discount, participants may perceive that stock has been sold for a gain when it
actually has not.  The basis of the stock is usually the market price on the date of
purchase, not the actual price paid.  The discount in this case is treated as ordinary
income, and sale of shares at a price between the original purchase and market (basis)
prices will result in a capital loss, though the participant may make money on the deal.

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-steve p.          The facts are facts, the opinions are mine.
                   Standard disclaimers apply.  No warranty.
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