What is a wash?
A sequence of transactions that yields a zero net total gain is called a wash. For instance, an investor may profit $100 from one investment and lose $100 from another. It is a wash. However, an investor may find the tax ramifications to be intricate.
Another name for a wash is a break-even proposition.
Understanding a Wash
A wash occurs when two transactions cancel each other out, resulting in a position that is essentially break-even.
A business will lose money if it spends $25,000 producing goods it sells for $25,000. The transaction has been tainted if an investor receives $5,000 on the sale of one investment and loses $5,000 on the sale of another.
That seems straightforward enough, but the IRS has intricate tax regulations about investor wash sales that relate to reporting investment losses. The rules expressly prohibit an investor from claiming a failure if they sell an asset at a loss and then, within 30 days, buy the same security or one that is nearly comparable.
For example, an investor pays $10,000 for 100 shares of Anheuser-Busch (BUD) stock. After just six weeks, the 100 shares are worth only $7,000. After selling all 100 shares to deduct the $3,000 capital loss at tax time, the investor determines a week later that BUD is an actual value and purchases 100 shares once again.
The original loss cannot be claimed for tax reasons because the identical security was repurchased within the allotted time frame.
An investor cannot deduct a loss on a stock sale if they acquire identical shares again within 30 days after the first sale.
But the loss experienced after a wash is partially in vain. The loss may be deducted from the second BUD purchase’s cost basis. As a result, the magnitude of any future taxable profits when the stock is sold will be less due to the increased cost basis of the bought shares. The wash’s benefits haven’t vanished; they’ve just taken longer to manifest.
Furthermore, the wash securities’ holding duration extends the replacement securities’ holding term. Because the investor extended the holding time of the shares by six weeks, it was considerably more straightforward to be eligible for the best long-term capital gains tax rate. (To qualify for the reduced tax rate, stock must be held for an entire year.)
When It’s Not Legal to Wash
Because certain wash sales resemble pump and dump schemes, they are prohibited.
To pique investor interest, for instance, an investor cannot purchase a stock via one brokerage and then sell it through a different brokerage.
Conclusion
- A wash in investing is a loss offset by a gain of the same amount.
- A wash is an investment loss that may be written off for tax reasons.
- An investor’s ability to deduct the loss if they repurchase the identical stock is subject to timing constraints.
