Question

what is wash sale trades, how does it effect taxes, what are the advantages and disadvantages, and how to avoid it?

Answer 1

Wash sales trading:

The wash sales trading generally occurs when an investor sells the securities at a loss and purchases the same within 30 days of such sale

The intent wash sales trading:

The main intention of wash sales trade is to claim tax deductions by selling at loss. As it is purchased within 30 days of sales the security position does not change therefore it is more like a structured transaction to reduce tax liability.

Advantages:

• The advantage is that it is effective in reducing tax liability
• the loss on sale can be claimed as deduction
• increased gain if the repurchased securities are sold later

Disadvantages:

• It is illegal in nature
• it is structured to evade taxes

How to avoid wash sales trading:

The effect of wash sales transactions can be avoided by adding the loss on sale of securities to the repurchase cost of the securities , therefore this can reduce the future gain if the same securities are sold

To control the wash sale trading the IRS has specified wash sales rule. This rule disallows tax deductions in respect of the securities sold on wash sales basis.

Example : if 1000 securities are sold at $ 2000 loss and the same 1000 securities purchased within 30 days for $ 1000 and later sold for $ 4000 gain

Here it can be seen that the loss of $ 2000 reduces the tax liability whereas the net position of the securities that is 1000 remains the same.