Shares Acquired Before Acquisition of Shares Sold

Consider the following simple example:  An investor purchases 100 shares of stock on Jan 3, 2011, then another 100 shares of the same stock on Jan 18, 2011.  On Jan 31, 2011, the investor sells the shares acquired on Jan 18 (via specific identification) at a loss.  Do the shares acquired on Jan 3 constitute replacement shares thereby disallowing the loss?

Silver’s position (as shared by Kaye Thomas of Fairmark Press on page 6 of his comments in response to IRS Notice 2009-17 and again in his comments in response to the proposed regulations, here) is that this sequence of activity does not constitute a wash sale since the Jan 3 shares were acquired before the Jan 18 acquisition date of the shares sold on Jan 31 and therefore cannot be considered replacement shares.  More generally, shares acquired before the acquisition of shares sold should be disregarded when applying the wash sale rule.

Rev. Rul. 56-602 deals with a related point, clarifying that shares acquired at the same time as shares sold (in other words, as part of the same lot) are disregarded when applying the wash sale rule.  Discussion of statutory intent includes:

“…Congressional discussions and reports refer consistently to the ‘new acquisition’ and to ‘repurchasing’ and ‘buying back’ stock or securities. These terms indicate an intent on the part of Congress to prevent a taxpayer’s taking losses for tax purposes while giving up his position in a security for only a few days or not at all. However, they do not indicate an intent to disallow a loss sustained in a bona fide sale of securities made to reduce the taxpayer’s holdings, even though the sale is made within 30 days after the securities were purchased.”

Similar to the reasoning in Rev. Rul. 56-602, the Jan 31 sale in our original example can be viewed as a “bona fide sale… made to reduce the taxpayer’s holdings”.  The sale has economic significance since the investor is clearly “giving up” the gain or loss exposure associated with the Jan 18 shares, while the  exposure associated with the Jan 3 shares remains unchanged and ongoing.  The continued existence of pre-existing exposure is a good indicator that acquisitions prior to the acquisition of shares sold do not represent replacement shares regardless of their presence within the 30 day period prior to the sale.  The example sequence of activity clearly represents a reduction in taxpayer’s holdings, not the replacement of one holding with another, and therefore should not constitute a wash sale.  Conversely, had the Jan 3 shares been sold instead, the sale would not have economic significance and should be treated as a wash sale since the Jan 3 associated exposure is ended and another effectively equivalent exposure begun within a short period of time.  (A contrary example in Rev. Rul. 76-316 may be cited but is clearly intended to clarify an unrelated point, not to counter 56-602.)

Questions concerning this case arise almost without fail in each of our client engagements.  Clarification of the above was requested in Silver’s comments to the IRS rulemaking committee with the strong recommendation that, consistent with the treatment of shares acquired at the same time as shares sold per Rev. Rul. 56-602, shares acquired before the acquisition of shares sold be disregarded when applying the wash sale rule.

2 Responses to Shares Acquired Before Acquisition of Shares Sold

  1. brad says:

    Was this issue ever resolved? Did the final cost basis regulations clarify?

    • N Ruskin says:

      No. None of the requests for clarification of the wash sale rules were addressed in the final 2011 regulations. In the preamble, the authors mention various questions posed by myself and others but state that “These and other comments requesting guidance on how the wash sale reporting rule applies to various types of activity within an account relate to the substantive rules under section 1091 and are outside the scope of these regulations.” It was clearly a huge task putting the regulations together, so I wouldn’t at all be surprised if they just decided they didn’t have time. The current draft of the proposed 2013 (now 2014) regulations for options and fixed income also does not include guidance of any sort on wash sales — at this point, the ambiguities remain.

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