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Federal Employees News Digest : Dec 16, 2013
The Dec. 9 "Informed Investor" discussed pos- sible tax savings resulting from the sale of a capital asset---including a stock, bond or mutual fund---at a loss. A capital loss generally results when a capital asset is sold for less than its cost. Investors have been taught that the best time to buy a capital asset is when it is priced low, and to sell a capital asset after it has appreciated in value. After selling a capital asset that has depreciated in value, resulting in a capital loss, an investor may be tempted to buy back the same capital asset shortly thereafter. But the IRS "wash sale" rule could dis- allow the loss if the capital asset is bought back shortly after its sale. This column discusses the wash sale rule and its consequences for investors. An investor has a "wash sale" if he or she sells a capital asset at a loss and buys a substantially identical capital asset within 30 days before or after the sale, as illustrated in the following example: On Nov. 30, 2013, Judy sold 100 shares of ABC stock at a loss. On Dec. 15, 2013, Judy buys 100 shares of ABC stock. The sale is a "wash sale." The wash sale period consists of 61 days; namely, the day of the sale, 30 calendar days before the sale, and 30 calendar days after the sale. If an investor wants to claim a loss for tax purposes, the investor has to avoid purchasing the same capital asset during the wash sale period. In the example above, Judy can avoid a wash sale on her sale of 100 shares of ABC stock by not buying shares of ABC stock between Oct. 31 and Dec. 30, 2013. There are three consequences resulting from a wash sale rule violation: (1) The investor is not allowed to use the loss on his or her income tax return; (2) the disallowed loss is added to the "cost basis" of the replacement capital asset; and (3) the holding period for the replacement capital asset includes the holding period of the capital asset sold. The cost basis adjustment is important because it preserves the benefit of the disallowed loss. The investor could receive the benefit of the disallowed loss on a future sale of the replace- ment stock, as illustrated in the following example: Carl bought 100 shares of GHI stock 10 years ago at $60 a share. The GHI stock has declined to $30 a share and Carl sells the stock on Dec. 10 in order to take the loss. But on Dec. 23 the stock increases in price and Carl buys it back for $32 a share, less than 30 days after the sale. Carl cannot deduct the loss of $30 per share because of the wash sale violation. But he can add the $30 per share loss to the basis of the $32 replacement shares, resulting in a cost basis for the replacement shares of $62 per share. If he ends up selling the replacement shares for $65 a share, he will have a $3 a share gain. If he sells the replacement shares for $32 a share, the same price he bought them, he can claim a loss of $30 per share. Because of this cost basis adjustment, a wash sale may not always be detrimental to an investor. It simply means that the investor will receive the same tax benefit at a later time. If the investor is able to use the loss later in the same calendar year, then the wash sale may have no effect on current year taxes. But there are times when there could be painful consequences as a result of a wash sale rule violation, including: • If the investor does not sell the replacement capital asset in the same calendar year, the loss will be postponed, possibly to a year when the deduction is of less value. • If the investor dies before selling the replacement capital asset, then whoever inherits the capital asset will not benefit from the cost basis adjustment. With respect to the holding period, when an investor makes a wash sale, the holding period for the replacement capital asset includes the period held for the capital asset that was sold. This rule prevents the investor from converting a long-term (more than one year) capital loss to a short-term (less than one year) capital loss. In some situations, an investor could get more tax savings from a short-term loss than a long-term loss, meaning that the holding period rule could work against the investor. Note the wash sale rule applies only to capital losses and not to capital gains. An investor cannot wipe out a capital gain buy- ing back the same capital asset within 30 days. The following are two suggestions for an investor to avoid a wash sale: (1) Watch the calendar carefully and wait at least 31 days before buying the capital asset again; and (2) if truly convinced that the capital asset is at "rock bottom," then buy the replacement capital asset at least 31 calendar days before the sale. Edward A. Zurndorfer is a Certified Financial Planner and Enrolled Agent in Silver Spring, MD. He is also a registered representative with FSC Securities Corporation, branch address: 833 Bromley St. - Suite A, Silver Spring, MD 20902. Phone: (301) 681-1652. Securities offered through FSC Securities Corporation,member FINRA/SIPC. EZ Accounting and Financial Services and FSC are independent companies. Informed Investor Beware of 'wash sale' rule when selling capital assets at year's end December 16, 2013 Vol. 63, No. 22 7 Visit us on the Internet at www.FederalDaily.com
Dec 9, 2013
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