Tax loss harvesting and the wash sale rule

How it works

A realized loss first offsets capital gains of the same holding period, then the other kind, and up to this year's official capital loss deduction limit (not yet verified here; see the official source below) of net loss a year reduces ordinary income, with the remainder carried forward indefinitely. The wash sale rule applies when the same security, or one substantially identical to it, is bought within the 61 day window centered on the sale date, in any account the person or their spouse holds, including an IRA. A disallowed loss is not gone forever; it is added to the basis of the replacement shares, so it shows up when those are sold, except when the replacement is bought in an IRA, where it is lost. Reinvested dividends inside the window count as a purchase. Funds that track different indexes are generally not treated as identical, though the IRS has not drawn a bright line.

What it gives

A loss on paper becomes a real reduction in this year's tax while the money stays invested in something similar.

Losses carry forward without expiration.

The disallowed loss in a wash sale is deferred rather than lost, outside an IRA.

What it costs, or where the catch is

Automatic dividend reinvestment or a purchase in a spouse's account can trigger the rule by accident.

A loss sale that is then repurchased in an IRA loses the loss permanently.

The replacement investment carries a lower basis, so the tax saved now is mostly tax deferred, not erased.

A worked example

Bram holds an index fund he bought for $30,000 that is now worth $24,000. He sells, books a $6,000 loss, and buys a different broad market fund the same day. This year he has $2,000 of gains, so the loss wipes those out, and if the yearly ordinary offset were $3,000, that much comes off his wages too, saving about $660 at 22 percent. The remaining $1,000 carries forward to next year.

Where it goes wrong

The common miss is selling a fund at a loss and letting an automatic reinvestment buy it back a week later, which disallows the loss.

Who confirms it for you

For your own numbers, a CPA or enrolled agent. This page explains how the rule works for people in general; it does not know your situation and does not tell you what to do.

The official source

IRS Publication 550, Investment Income and Expenses. Every figure that changes by year comes from the site's rules table, which the watcher checks against the official page on a schedule; where a figure is not yet verified, this page says so instead of printing a number.