What is the laundry sale rule? (And does it apply to crypto?)

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    What is the laundry sale rule?

    The laundry sale rule has nothing to do with the maximum amount of laundry that can be put into a washing machine. Instead, if you want to make a loss on the sale, it’s a rule that limits what you can buy next after selling a stock.

    If you’re a buy-and-hold investor who rarely sells investments, you won’t break the wash-sale rule very often. However, if you are a heavy trader or an investor trying to cash in on your own tax losses, you should be aware of the rules on laundry sales so that you can avoid them as often as possible.

    What is the laundry sale rule?

    The wash sale rule states that if you sell a stock at a loss, you cannot buy essentially similar stocks 30 days before or 30 days after the sale and you can tax the loss on the loss. The restrictions on laundry sales were added to deter investors from abusing tax breaks.

    Before the wash sale rule was introduced, investors could edit the system to sell a security at a loss and then buy it back the next day (or even minutes later). Then they could claim the realized capital losses from the sold and repurchased shares in their tax return at the end of the year capital gain on other stocks, even though they hadn’t actually left the position for a substantial amount of time Time.

    Today if You buy another security within 30 days before or after after selling one at a loss it has to be a “significantly different” one. Otherwise, you will not be able to claim the loss to reduce your taxable income. Also, your spouse or a company in which you have a controlling interest cannot buy stocks that are essentially similar.

    Does the wash sale rule apply to cryptocurrencies?

    Securities are subject to the wash sale rule. Examples of stocks include stocks, ETFs, mutual funds, options, and bonds.

    Currently, cryptocurrencies are considered property rather than securities (as per Section 1091 of the IRS Code) and are therefore not subject to the wash sale rule. However, this can only be temporary.

    As part of its review of the 2021 Infrastructure Bill, the Ways & Means Committee presented a summary document containing several proposals for funding the bill’s initiatives. The document (in § 138153) contains plans to subject cryptocurrencies to the wash sale rule:

    • This department contains Commodities, currencies and digital assets in the wash-sale rule, an anti-abuse rule that previously applied to stocks and other securities. The wash sale rule in section 1091 prevents taxpayers from claiming tax losses while retaining a share of the loss assets. The changes to this section apply to tax years beginning after December 31, 2021.

    Cryptocurrency traders and investors will not be happy to see this proposal. But it honestly makes sense because cryptocurrencies are bought and sold in a way that is more like stocks (with near-instant transactions) than tangible assets like real estate.

    We’ll have to wait and see if this change to the laundry sale rule will eventually be added to the tax code. However, if it does, the exchanges are subject to the same 1099-B reporting requirements that apply to stockbrokers.

    How are laundry sales reported in tax returns?

    If you are making a laundry sale during the tax year, report it on Form 8949 along with any other investments you have held for less than a year. If you use tax software to create your return, make sure it is yours version used supports the tracking of capital gains and losses.

    How to avoid laundry sales

    The best way to avoid a wash sale is to simply wait for at least 30 days to pass before buying back a security after selling it at a loss. But beyond that obvious answer, there are a few strategies that could allow you to get back into the market sooner without breaking the laundry sale rule.

    One option would be to buy another stock from the same sector. For example, if you sell Pfizer (PFE) at a loss, you can buy Moderna (MRNA) immediately without breaking the laundry sale rule. Or, if you sold Procter & Gamble (PG), you could buy another consumer goods industry stock like Unilever (UL).

    Another option is to rotate index ETFs that are similar but not identical. For example, you could sell shares in an S&P 500 ETF at a loss and then immediately buy shares in a Total Stock Market ETF. Historically, the performance of these types of funds has been very similar. However, their underlying assets are so different that they should not be viewed as “substantially identical” securities.

    A final option would be to purchase additional shares of a stock at least 31 days before you plan to sell some of the stocks at a loss. For example, let’s say you bought 20 shares of XYZ for $ 130 and they are currently selling for $ 100. If your long-term view of XYZ is bullish, you could buy another 20 stocks at $ 100. Then 31 days later, if XYZ’s stock price is still below $ 130 at that point, you could sell your original stock and pocket your losses.

    However, this last strategy is a bit riskier as you double your exposure to XYZ during the 30 day waiting period. If the share price continues to decline during this time, you will lose money with 40 shares instead of 20.

    How can brokers or robo-advisors help?

    Many brokers and robo advisors offer laundry sales management through their automated tax loss capture algorithms. However, you will typically need to invest in one of these firms’ “managed portfolios” to take advantage of automatic tax loss collection.

    Note that not all brokers offer managed portfolios. Robinhood and Webull, for example, don’t. And even if robo-advisor portfolios are offered, this does not necessarily guarantee the inclusion of tax loss harvesting. For example, SoFi Automated Investing does not offer tax loss harvesting for its portfolios. And Wealthsimple only offers it to clients with assets over $ 100,000.

    Still, several robo-advisors are offering automated tax losses to help clients avoid laundry sales while minimizing taxes. Examples are Betterment, Wealthfront and Axos Invest.

    Final thoughts

    Even if avoiding the laundry sale rule is automated, it is only automated at one company. As mentioned above, if you are investing through more than one brokerage or robo-advisor platform, you will need to track your laundry sales across all of your accounts.

    Working with a tax or financial advisor can help better manage laundry sales for those with multiple accounts. And if the wash sale rule also applies to cryptocurrency, then you should consider using a crypto tax software platform like CryptoTrader.Tax.

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