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I read an old message about converting long-term loss to short-term, so that it can be used to offset short-term gains (which is obviously advantageous). The idea is to sell the depreciated stock at a loss and within the 61-day window buy call options for the same stock. This triggers the wash sale rule which disallows the loss. Then exercise the options. According to IRS pub 550, the holding period for the stock acquired through option exercise starts on the date of exercise. The original cost basis carries through to the new stock, which can now be sold, producing a short-term loss. In principle all this can be done within a few days.

Is there something wrong with this picture? To close the loophole, there could be an exception to the holding period rule which would "remember" that the option was acquired in a wash sale transaction. However, there doesn't seem to be anything in pub 550 to this effect. Am I missing something?
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I read an old message about converting long-term loss to short-term, so that it can be used to offset short-term gains (which is obviously advantageous). The idea is to sell the depreciated stock at a loss and within the 61-day window buy call options for the same stock. This triggers the wash sale rule which disallows the loss. Then exercise the options. According to IRS pub 550, the holding period for the stock acquired through option exercise starts on the date of exercise. The original cost basis carries through to the new stock, which can now be sold, producing a short-term loss. In principle all this can be done within a few days.

Is there something wrong with this picture? To close the loophole, there could be an exception to the holding period rule which would "remember" that the option was acquired in a wash sale transaction. However, there doesn't seem to be anything in pub 550 to this effect. Am I missing something?


Yas, you are missing something. Any time you have a wash sale, not only do you adjust the cost basis of the investment, you also include the holding period of the original investment. Thus, any long-term loss would remain long-term. See IRS Pub. 550, pg. 58, the section on Wash Sales, the sentence immediately preceding Example 1.

Ira
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I read an old message about converting long-term loss to short-term, so that it can be used to offset short-term gains (which is obviously advantageous).

Not always, it only matters if you have short-term and long-term realized gains.
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> Yas, you are missing something. Any time you have a wash sale, not only
> do you adjust the cost basis of the investment, you also include the
> holding period of the original investment. Thus, any long-term loss
> would remain long-term. See IRS Pub. 550, pg. 58, the section on Wash
> Sales, the sentence immediately preceding Example 1.

Yes, I am aware of this, but on the other hand on page 56 it says:

"Option exercised. Your holding period for property you acquire when you exercise an option begins the day after you exercise the option."

So it is quite clear, as you pointed out, that the holding period for the option is the same as that for the previously wash-sold stock. However it is not clear whether this holding period should be preserved when this option is later exercised. The pub does not say that the holding period for the option gets rolled into the holding period of the stock acquired through option exercise.
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Yes, I am aware of this, but on the other hand on page 56 it says:

"Option exercised. Your holding period for property you acquire when you exercise an option begins the day after you exercise the option."

So it is quite clear, as you pointed out, that the holding period for the option is the same as that for the previously wash-sold stock. However it is not clear whether this holding period should be preserved when this option is later exercised. The pub does not say that the holding period for the option gets rolled into the holding period of the stock acquired through option exercise.


The wash sale adjustments trump the general holding period rules. The rule on page 56 is the parallel to the rule for the purchase of the underlying security given on page 55 - generally, the holding period begins the day after purchase.

Ira
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