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.

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Gain-for-Loss Scenario

Since the basis of replacement shares is adjusted by the amount of any deferred losses triggered by those shares, a block of stock that would have been closed at a gain had wash sales not been considered may result in a loss, which would be again disallowable per the wash sale rules (this is a “re-wash”).  It can be reasonably inferred, therefore, that prior wash sale adjustments must be considered when determining if a sale or short cover is a loss for wash sale purposes.   Brokers must therefore identify wash sale conditions by using wash sale adjusted basis to determine if a long sale or short cover incurs a loss.

However, in such a gain-for-loss scenario it is possible that not all shares will have been closed at a wash adjusted loss.  While there is no discussion of this in any of the primary or secondary sources, the wash sale rules explicitly deal only with the disallowance and deferral of losses.   It can further be reasonably inferred that any gain components for a given block of stock should remain unadjusted.  Brokers should therefore disallow and defer only losses associated with shares closed in a gain-for-loss scenario; gains should remain unadjusted.