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Author: gharnett Two stars, 250 posts Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: of 121177  
Subject: Repeated shorts against the box Date: 2/21/2000 3:36 AM
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I have a question about shorting against the box. Below is a citation from a post by TMF Taxes (number 6880, 12/8/98). All the examples of shorting against the box that I have seen so far seem to presuppose a use of the strategy to defer taxable gains on the long position to the year immediately following the initiation of the offsetting short position. My question relates to a use of strategy for hedging, not tax deferral. Is it possible to open the offsetting short position, then close it, recognizing capital gain or loss on the short transaction but retaining the long position indefinitely without recognition of capital gain (or loss) on that long position until such time as the long position is sold, which might be many years -- not just the next year -- after the closing of the short position? Making use of the example taken from post 6880 as cited below, I've interjected the question "What if this is year 10?" in step 4 below. Would this modification of the example alter the account of taxable gain (or loss)? If not, is it safe to conclude that one may use this strategy repeatedly to hedge a long position, setting up offsetting short positions when one fears a market decline, then closing these positions, provided that, after the closing of the last of any series of such short positions, one leaves the long position unhedged for 60 days?

My thanks. The example follows below.

Gerald Harnett

Example: R, a calendar year taxpayer, has the following transactions in X Corp common stock:
. . . (1) Mar. 1, Year 1: bought 500 shares for $20,000.
. . . (2) Sept. 4, Year 4: borrows 500 shares from her broker and sells those shares short on that date for $40,000.
. . . (3) Jan. 15, Year 5: buys 500 shares for $35,000 and delivers those shares to her broker to close the short-sale transaction.
. . . (4) Mar. 20, Year 5 [WHAT IF THIS IS YEAR 10?] : sells her original 500 shares (the appreciated financial position) for $33,000.

Closing the short sale (transaction (3)) results in a short-term gain of $5,000 on transaction ($40,000 less $35,000).

The sale of her original shares on Mar. 20, Year 5 (transaction 4)) results in a long-term gain of $13,000 ($33,000 less $20,000).

Both the short-term gain of $5,000 and the long-term gain of $13,000 are taken into account in Year 5. There was no constructive sale in Year 4 since R closed the transaction before Jan. 31, Year 5, held her appreciated financial position throughout the 60-day period beginning on Jan. 15, Year 5, the day she closed the short sale made in Year 4, and her risk of loss with respect to her appreciated financial position was not diminished during that 60-day period.

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