RSUs and the Wash Sale Rule
What is a Wash Sale?
The wash sale rule is a regulation enforced by the Internal Revenue Service (IRS) that prevents investors from realizing a tax deduction on losses from the sale of securities if they purchase substantially identical securities within a 61-day window, including the date of sale.
When you sell investments at a loss, you might be getting some tax benefit in the form of capital loss. Capital loss can be first used to reduce capital gains if any or reduce your regular income (i.e. wages) up to $3,000 per year. For example, if you purchased A stock at $100 and sold it for $90, you are looking at a $10 capital loss. Wash sale rule is in place to prevent taxpayers from utilizing the previously mentioned $10 loss in certain situations.
Wash Sales and RSUs
When the RSUs vest, the employee receives the shares of company stock and the value of those shares is taxed as ordinary income. Vest date and acquisition date are deemed the same by the IRS from a wash sale rule perspective. If an employee sells RSUs at a loss within 30 days of shares vesting (both before and after vesting date), there may be wash sale rule issues. This can become a pain when employees have monthly vesting.
It's important to note that the wash sale rules only apply to losses, not gains. So before selling RSUs at a loss be sure to check the vest dates for all RSU grants to ensure no RSUs are vesting 30 days before or 30 days after.
Impact of Wash Sales
The main impact is that the loss from the sale of securities that triggered the wash sale rule will be disallowed for tax purposes. This means that you cannot claim the loss on your tax return to offset gains from other sales or income. Instead, the disallowed loss is added to the cost basis of the new securities that were purchased within the wash sale window.
For example, let's say you sold shares of stock at a $1,000 loss when shares vested within the 61-day wash sale window. The $1,000 loss would be disallowed and added to the cost basis of the newly vested shares. So, if the newly net vested RSUs have $10,000 of vesting value (cost basis), your cost basis for tax purposes would be $11,000 ($10,000 + $1,000).
This adjustment to the cost basis can impact your future tax liability when you eventually sell the new shares. If the new shares are sold for a gain, the disallowed loss from the wash sale will reduce your taxable gain. However, if the new shares are sold for a loss, the disallowed loss from the wash sale will further increase the loss, which can be used to offset gains from other sales or income as long as no wash sale is being triggered again.
It's important to keep track of wash sales and their impact on your cost basis, as well as to consult with a tax professional if you have any questions or concerns. Failure to properly account for wash sales can result in errors on your tax return and potential penalties from the IRS.
Wash Sale Logistics
The process of tracking and claiming a disallowed loss from a wash sale can be a bit complex, but it's important to do it correctly in order to accurately report your taxes and avoid any penalties from the IRS.
Here are the general steps for tracking and claiming a disallowed loss from a wash sale:
- Keep track of all vests, purchases, and sales of securities throughout the year, including any sales that result in a loss.
- Calculate the disallowed loss for each wash sale. This is the amount of the loss that cannot be claimed on your tax return.
- Adjust the cost basis of the new securities vested or purchased within the 61-day window to include the disallowed loss. This will ensure that you do not pay taxes twice on the same loss.
- When it comes time to report your taxes, include the disallowed loss as an adjustment to your cost basis on Form 8949, which is used to report sales and dispositions of capital assets.
- Enter the adjusted cost basis for the new securities on Schedule D, which is used to calculate capital gains and losses.
By following these steps, you can track and claim disallowed losses from wash sales, which can help reduce your tax liability and ensure that you are accurately reporting your taxes to the IRS. Keep in mind that the rules and regulations surrounding wash sales and capital gains taxes can be complex, so it's a good idea to consult with a tax professional if you have any questions or concerns.
Here's an example timeline of when a wash sale could occur with RSUs:
- On January 1st, an employee receives a grant of RSUs as part of their compensation package. The RSUs vest over a four-year period, with 25% of the shares vesting on January 1st of each year.
- On January 1st of the second year, the employee's first tranche of RSUs vest and they receive the shares of company stock. The value of the shares is taxed as ordinary income.
- On February 1st, the employee sold some of the shares they received from the first tranche of RSUs at a loss.
- On February 15th, the employee decides to exercise options for their company, which is a purchase of substantially identical securities, triggering a wash sale.
- The wash sale disallowed the loss from the sale of the shares in step 3, which means the loss cannot be used to offset gains from other sales or income.
- The disallowed loss is added to the cost basis of the new securities purchased in step 4, which will impact the tax liability when those securities are eventually sold.
This timeline illustrates how a wash sale can occur with RSUs when the vesting period spans multiple years and can even interact with stock options. It's important for employees with RSUs to be aware of the vesting schedule and to track any sales and purchases of company stock to ensure compliance with the wash sale rules.
Appendix: Additional Considerations
- On vesting date, sell-to-cover-tax transactions are also subject to the wash sale rules
- If client repurchases/vested into more or less shares during the 61 day period than the original sale, disallowed loss needs to be adjusted accordingly across the newly purchased/vested shares.
