11.24.08
Tax Loss Selling and the 30-day Rule
I don’t usually write about my investing activities. This is not meant to be a personal finance blog and I think Ryan at Uncommon Cents does a much better job writing about this topic than I could.
Since the end of the year is coming up, I thought I would chime in with my personal take on end-of-the-year Tax Loss Selling. Tax Loss Selling is the activity of selling stocks at a loss to realize those losses in order to offset gains in one’s portfolio. This, by itself, has never made much sense to me and smacks of the idea of paying a dollar to save 30 cents.
As I said in a previous financial post, I trade options as a learning experience and, fortunately, make a small amount of profit. If I can, I’d like to avoid paying taxes on these short term profits, but I don’t believe in selling my stocks just to take a loss. Instead, I take advantage of the rules surrounding Wash Sales. In short, buying they same stock (or equivalent) within 30 days of selling it creates a “wash event” that disallows a loss deduction. This rule was put in place to prevent traders from selling a stock and immediately buying it back at the same price while still realizing the loss.
In order to comply with the Wash Sale rules, I buy an equal amount of stock to the one I intend to sell at least 31 days before my planned sale date. Since I want to deduct some losses for 2008, I need to buy replacement stock in October, wait at least 31 days, sell the same amount of stock in November and then avoid any further buying and selling through December. Technically, I sell in December, but I don’t like these transaction to straddle a calendar year.
Since I am holding a double position for over one month, there is the very real possibility of doubling a loss if the stock declines. To avoid this, I hedge my position through the month with options. The full strategy is laid out like this:
- Day 1: Start with 100 shares of ABC that show a paper loss.
- Day 1: Buy another 100 shares of ABC.
- Day 1: Establish a Costless Collar around the current stock price at least 32 days out.
- Days 2 – 32: Wait.
- Day 33: Collar expires. Sell 100 shares of ABC.
- Days 34 – 65: Wait.
- Day 66: Wash Sale rules satisfied. The loss is now realized.
At this point, I have realized my loss for tax purposes, but have remained fully invested in my stock. Obviously, one must have additional capital available to purchase the extra shares.
This is not tax or investing advice and I am not a certified tax or financial planning professional. Talk to your own financial experts before making any investment or tax decisions.