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TLDR: Do sales of long puts at a loss and purchase of underlying stock within 30 days qualify as wash sale rule?

Let's say I am a long term investor on SPY, and I buy $1,000 of SPY every month on the first trading day of the month.

To protect my position from market crashes, I also buy at-the-money SPY puts with an expiry date of 1 month and sell it a day to expiry a month later.

For all 12 months in the last year, the SPY kept making higher highs so that in the year all my 12 options expired worthless.

Will I be able to claim all the losses of my SPY put positions on my tax return, or will the wash sale rule apply in this case so that the SPY put losses are used to offset the cost basis of the $1,000 SPY shares that I buy each month?

What if an alternative ETF is used?

What if I were to buy protective puts using an alternative underlying ETF that still tracks the S&P 500 (IVV, VOO, etc). Would selling IVV put options at a loss and immediately buying SPY stock qualify as a wash sale?

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Let's start off by saying that IRS regulations regarding options are nebulous at best and there's no clear cut understanding out there as to what 'substantially identical' is in many cases.

The general belief of many is that if the CUSIP number is different (not the exact same security) then it's not a wash sale. Fairmark and some other reputable tax trading sites believe that's not the case. For example, selling a deep ITM put or buying a deeping ITM call is 'substantially identical' to the underlying and therefore triggers a wash sale. Do options trigger wash sales in other options? many think so but again, not definitively known.

However, there may be another issue. Fidelity states that:

Buying a protective put can trigger a constructive sale of your stock if the purchased put is either at or in the money.

IRS Publication states that:

You are treated as having made a constructive sale of an appreciated financial position if you:

• Enter into an offsetting notional principal contract relating to the same or substantially identical property

The short answer? There isn't one.

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    We need bob’s options corner to catalog all these great answers. Happy new year!
    – quid
    Commented Jan 2, 2022 at 1:26
  • Thanks for the props Quid. Happy New Year to you as well!
    – Bob Baerker
    Commented Jan 2, 2022 at 14:30
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As Bob's answer states, there is not always clear guidance from the IRS when it comes to Options. However, in your particular case, I believe that it is safe to assume that the sale of your unprofitable Put Options and the purchase of the underlying do not violate the wash sale rule.

The reason why the wash sale rule exists, is so that investors cannot realize a loss on a security without effectively altering their risk profile exposure to that security.

Going long on an index ETF has a completely different risk profile from going long its corresponding Put Option: if the index ETF appreciates, the Put Option depreciates. They are not substantially identical at all; they are, in fact, the complete opposite.

What will most likely occur, is that your broker will not see this as a wash sale rule violation, and will acknowledge your net loss when it sends you the 1099.

Regardless, I would just delegate this decision to my broker and file my taxes using whatever numbers they send me on their 1099.

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  • I agree that long the underlying and long the put are not substantially identical. But what about the possibility of a long put being substantially identical to a previous long put that incurred a realized loss? Wash sale? I suppose that I could answer this if I was willing to break down my broker's EOY reports but that's too much effort. In the end, I've done what you suggested: "I would just delegate this decision to my broker and file my taxes using whatever numbers they send me on their 1099."
    – Bob Baerker
    Commented Jan 2, 2022 at 15:47
  • @BobBaerker I would guess that buying a put right after selling another put can potentially violate the wash sale rule. However, the OP can easily negate all those wash sale rule violations through the year by simply closing the year with a sale, and not buying the next put until 30 days after. It would be up to him to decide if the tax deduction is worth the risk of a month without unprotected puts.
    – user19035
    Commented Jan 2, 2022 at 16:10
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    If indeed it is a continuous wash sale, waiting 30 days would circumvent the problem as would buying a put on an unrelated index such as IWM. Not perfect correlation but close enough to avoid large losses from a market collapse.
    – Bob Baerker
    Commented Jan 2, 2022 at 16:46

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