My broker provides cost basis report with wash sale adjustment, why do I still need to buy Trademax?

My broker provides cost basis report with wash sale adjustment, why do I still need to buy Trademax?

Someone asked me why investor could not use brokers gain and loss report. Many brokers provide Gain and Loss report without considering the factor of WASH SALE RULES. Others claimed their Gain and Loss report compliant with WASH SALE RULES. Can you trust them? Never!

I only had 5 trade a year, broker could not be wrong, so can I trust broker? Never!

Here is a simple case with 2 trades involved. You placed a Limited Price Order with a broker, e.g. Scottrade. And you wanted to buy 1000 shares of XYZ at price of $10. I did not choose the option AON(all or none). Because it is a Limited Price Order, this order was not executed at once. At the day end, you got confirmation that my order was fulfilled by 2 transactions, a 500 shares buy at $10 and another 500 shares buy at $10. 1 week later, you sold 500 shares at $9 with a net loss of $500. Now, you have 3 transactions listed on year end statement. a 500 shares Open Long, a 500 shares Open Long and a 500 shares Close Long. Any broker who claims they have WASH SALE RULES built in their Gain and Loss reports, will report that you have $0 capital loss. It is WASH SALE RULES that your $500 loss is disallowed because you have bought 2nd 500 shares as replacement shares. However, this is a wrong result! Your real intention is to buy 1000 shares, the 2nd 500 shares is never an intention of replacing 1st 500 shares for continually holding. In real world, no broker will fix this kind of error for you. Their statement always list multiple transactions when a Limited Price Order executed in several transactions.

You can use software like TradeMax to alter transaction record downloaded from broker and use TradeMax Merge Transaction function in TradeMax to merge transactions when above mentioned scenario applied. In that case, you will have a 1000 share buy and a 500 shares sell in trades database. Software will generate a Form 8949 with $500 loss.

According to the definition of Wash Sale in IRS publication 550:

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. Buy substantially identical stock or securities.

2. Acquire substantially identical stock or securities in a fully taxable trade.

3. Acquire a contract or option to buy substantially identical stock or securities.

The full publication can be found by contacting your local IRS office or visiting the IRS Web site at www.irs.gov

In 2008, the IRS issued Revenue Ruling 2008-5. In this ruling, IRS said, If an individual sells stock or securities for a loss and causes his or her individual retirement account or Roth IRA to purchase substantially identical stock or securities within 30 days before or after the sale, the loss on the sale of the stock or securities is disallowed.

When you calculate cost basis with wash sale adjustment, you need to combine all investments accounts owned or controlled by you, including your spouses account or any corporate account you control.

The wash sales rule also applies to short trade.

We rephrase Wash Sale Rule in a easy understandable sentence. “A Wash Sale occurs if you close an open position (An open position could be a long position or a short sale) of stock or securities at a loss and within 30 days, before or after the sale, you acquire an open position of substantially identical stock or security as a replacement in any associated account.”

In certain circumstance, substantially identical stock or security could include but not limited to

1. Same stock listed in different stock exchange
2. Same stock with certain type of preferred shares
3. Trades between stock and option with same underlying
4. Trades between stock and future/warrants with same underlying
5. Trades between certain type of call options and put options at different strike price etc.
6. Trades between securities with same security type but different orientation(Long and Short should be treated differently)
7. Trades between certain securities issued by the same company

TradeMax allows users to make their own definition of substantially identical stock or security to suit various customer needs.

The wash sale rule aims to prevent an investor from obtaining the benefit of a tax loss without materially reducing economic exposure to the investment, so that investors cannot deduct losses from sales or trades of stock or securities when wash sale rules apply.

If your loss was disallowed because of the wash sale rules, add the disallowed loss to the cost of the new stock or securities (except in (4) above). The result is your basis in the new stock or securities. This adjustment postpones the loss deduction until the disposition of the new stock or securities. Your holding period for the new stock or securities begins on the same day as the holding period of the stock or securities sold.

www.irs.gov/publications/p550/ch04.html#en_US_publink100010601

Now, many brokers have provided detailed cost basis report with calculated wash sales, but have confined themselves to reporting the wash sales within the same account and for the same CUSIP; in such cases, taxpayers are responsible for reporting wash sales for identical as well as substantially identical securities, across all owned taxable accounts. As for different and complicated wash sale scenarios, the cost basis report and wash sale calculated is far from  accurate and completeness.

Definition of substantially identical securities