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From Pub 550, page 56 (or so), "Wash Sales" is defined as:

"A wash sale occurs when you sell or trade stock or securities at a loss and within 30 days before or after the sale you:

  1. ...
  2. Acquire substantially identical stock or securities in a fully taxable trade,
  3. ...
  4. ...

... If your loss was disallowed because of the wash sale rules, add the disallowed loss to the cost of the new stock or securities ..."

Now consider this example: I bought one share of X at $100, then one day later I sold one share of X at $99, with both trades in my IRA account. Then after another day, I bought one share of X at $98 in my taxable account.

The IRS code seems to imply that 1) I sold a stock at a loss in my IRA account; 2) I triggered a "wash sale" because "I acquired an identical security in a fully taxable trade". And thus, the loss in my IRA account is added to my cost basis in my taxable account.

This sounds too good to be true. Am I mis-reading the IRS code?

Update: If I am mis-reading the IRS code, most likely it is due to this: "Loss" is not defined as the difference between purchase price and liquidation price, in a retirement account. And I actually never had a "loss" in the IRA account. But I would like to hear from someone who really knows the code.

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  • You've described it correctly (except it isn't relevant in an IRA), but I'm confused about why you think it sounds good.
    – Hart CO
    Jul 30 at 12:28
  • If my interpretation could stand, one could simply manufacture short-term loss out of thin air. You could buy 3X ETF on say SP500, and also buy -3X EFT on say DJI, both in your IRA. One would make money, one would lose. You liquidate both. Then you buy the losing EFT again in a taxable account. If the "loss" in the IRA account could be added to the cost basis in your taxable account, you can simply liquidate your long in your taxable account right away. So you have now just created a short term cap loss, without any economic loss anywhere. Jul 30 at 14:06
  • I initially missed that the last transaction was in a taxable account, updated answer accordingly.
    – Hart CO
    Jul 30 at 14:36
  • Minor technical point: tax law is defined by the Internal Revenue Code (IRC); it is administered by the Internal Revenue Service (IRS). And, just to muddle things, the IRS issues regulations to interpret and apply the tax code. Aug 2 at 13:08
  • Thanks Pete. As someone without a legal background, I found reading the original code (IRC) too time consuming and otherwise also difficult. IRS publications are pretty good, but do contain some minor imprecise languages that I occasionally noticed/suspected. Aug 7 at 20:43

1 Answer 1

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The IRS does not care about gains and losses within an IRA. The money was either already taxed, or will be taxed as income on withdrawal. Since there is not capital gain/loss in an IRA (as far as the IRS is concerned), there can't be disallowed loss and what you propose is not affected by wash sale rules. So, in your example you'd just be down $1 in your IRA, and have a share with $98 basis in your taxable account.

People have done the opposite, realizing a loss in a taxable account and immediately buying substantially identical equities in an IRA, but the IRS addressed this in Revenue Ruling 2008-05 indicating that the loss would not be allowed and the basis in the IRA would not be adjusted.

Edit: I initially missed that the last transaction was in a taxable account.

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  • I know what you said is the conventional opinion. But if we just base everything on the exact language, where is the logical error in my interpretation of the code? Is there a "loss" in my IRA account, did I trigger clause 2? Then by definition, there is a "wash sale". Jul 30 at 14:01
  • It was indeed 2008-05 ruling that led me to this thought experiment: if an investor could get an "unfair" outcome from 2008-05, would IRS allow a "more than fair" outcome if she does the opposite of 2008-5? Jul 30 at 15:01
  • Nope, because you can't have a disallowed loss in your IRA.
    – Hart CO
    Jul 30 at 15:38

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