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I have been throwing around the following strategy for a bit and have been unable to convince myself that it is unsound. I am hoping someone with more extensive knowledge could lend a verdict here.

I have owned a stock for less than one year which has experienced a substantial drop (who'd guessed?). It seems there is no reason for me not to sell it now and get the short term capital loss. Then in a separate decision, decide to immediately buy it back or some other stock I believe to be a better purchase. I am a buy-n-hold guy but tax diff here seems to make sense. Following is a theoretical mathematical comparison.

(1) Bought 100 shares at $100. Now at $50. 5 years from now sell at $300. Pay 20% on $20,000 = $4,000.

(2) Bought 100 shares at $100. Sell now at $50. Buy back 100 shares immediately at $50. Sell in 5 years at $300. Tax benefit 28% (my tax bracket) on $5000 loss = $1400. 5 years later pay 20% on $25,000 = $5000. Total net taxes = $3600. Of course must add extra fees for buy and sell ($16).

Case 2 is less taxes than Case 1. The difference being equal to (.28-.2)*(5000) or (short term tax - long term tax)*(short term loss). As long as this is greater than fees to buy and sell ie loss > $16/(.28-.2) then I should do so.

Even in the case that it doesn't ever go back up before I eventually sell, I am basically looking at reaping the tax benefit of a short term loss versus the entire loss at long term tax rate. If this is correct, one would always want to sell losses beyond the aforementioned hurdle before 1 year is up.

Is this right?
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bayoufool3: "I have been throwing around the following strategy for a bit and have been unable to convince myself that it is unsound. I am hoping someone with more extensive knowledge could lend a verdict here.

I have owned a stock for less than one year which has experienced a substantial drop (who'd guessed?). It seems there is no reason for me not to sell it now and get the short term capital loss. Then in a separate decision, decide to immediately buy it back or some other stock I believe to be a better purchase. I am a buy-n-hold guy but tax diff here seems to make sense."


You are ignoring the Wash Sale rule. If you buy the same stock (acutally substantially identical stock, IIRC) within thirty days before or thirty days after you sell it for a loss, you cannot take the loss but must adjust your basis on the repurchased shares.

Much prior discussion about Wash SAles on this board, and it is discussed in the FAQ (but the title is not Wash Sales< IRRC) <<<Phil - HINT, HINT>>>

Regards, JAFO



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JAFO, thanks for the direction. Had given up a somewhat random search before getting to that unfamiliar term.

Checking my interpretation as it applies to my example... I am risking the tax differential I calculated earlier versus the potential lost gains from that 30 days I am on the sidelines. Of course, if I decide to feel more comfortable with buying some other stock anyway this is a moot point.

Feels a bit against my buy-and-hold grain.

Thanks.
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bayoufool3: "JAFO, thanks for the direction. Had given up a somewhat random search before getting to that unfamiliar term."

Your welcome.

"Checking my interpretation as it applies to my example... I am risking the tax differential I calculated earlier versus the potential lost gains from that 30 days I am on the sidelines. Of course, if I decide to feel more comfortable with buying some other stock anyway this is a moot point.

Feels a bit against my buy-and-hold grain."


TMFTaxes (or maybe TMFexRO) once wrote an explanatin regarding the "theory" behind the Wash Sale rule; and while understand ithe theory will not answer a detailed question about whether something is or is not a Wash Sale, understanding the theory will, IMO, help understand the application of the rule to particular circumstances.

Now, I am no tax expert, so this explanation will probably not be as artful or succinct as the prior one, but I do hope it helps.

As you know the tax code does not require income taxes to be paid until the income is "recognized." That is why if you used $1015 to buy 100 shares of Microsoft at $10/share ten years ago (created numbers) and have never sold it, you have paid no income on the gains even though the value of the stock would be substantially (by orders of magnitude) larger. Only when you sell, thereby changin your economic position, do you recognize the gain. You would no longer benefit from future gains of Microsoft.

When you sell for a tax loss and "immediately rebuy," your net economic position has not really changed, you have just tried to manufacture a loss, BUT you would still benefit from future gains of Microsoft.

In order to prevent that kind of activity, Congress effectively defined "immediately rebuy" as any purchase made within 30 days before or 30 days after the date of the sale that generates the loss. IOW, if you want to "recognize" the loss, you really need to be exposed to the market not benefit from future gains of the stock sold for 30 days.

Why 30 and not 25 or 35 or 365? I do not know; it is probably buried deeply in some legislative history. My guess is that it reflects an estimate by Congress that 30 days is adequate exposure to the market to make the loss "real" but not too long as to be inappropriate to allow for changed thinking.

Also, remember that teh Wash Sale rule is not a permanent loss of the deduction, it is a postponement effected by adjusting the basis of the replacement stock.

Hope this helps. Regards, JAFO


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Even in the case that it doesn't ever go back up before I eventually sell, I am basically looking at reaping the tax benefit of a short term loss versus the entire loss at long term tax rate. If this is correct, one would always want to sell losses beyond the aforementioned hurdle before 1 year is up.

Aside from the wash sale rule, which has already been pointed out to you, you're mixed up on one other thing, and possibly missing another.

It matters whether your loss is short-term or long-term only when you have short-term gains. Without those, your losses have the same tax benefit whether they're short-term or long-term.

You are also assuming that you will have no long-term capital gains against which to apply the loss carryover. While that may be the case, it's something you must consider in your equation, if only to say, "It ain't gonna happen."

TMF ExRO
Phil Marti
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