Build Your Strategy For Taxes And Trading


Simpler Trading Team

Mar 18th 2022  .  4 min read

Traders working in taxable accounts should have an understanding of important techniques to develop a strategy for taxes and trading.

Traders have a tendency to avoid thinking about tax rules while trading, but it’s important to include these requirements in trading strategies throughout the year. Tax season may be in April, but it’s important to plan ahead prior to sending in a return.

(Note: The following insights are for information purposes and this article should not be considered advice from an accountant, financial advisor, or any taxing authority.)

(Check out the video, above, for insight into trading this changing market.)

Start planning for taxes and trading

Some traders will strategize “tax-loss selling” if a stock has not performed well throughout the year as the income from stocks, options, and exchange traded funds (ETFs) is accounted for in the year they are sold. 

Traders who are recording dollar-cost averaging, selling naked puts, or even getting assigned stock should have a record keeping process in place. It’s important to maintain records for accountants.

Are there benefits to trading losses?

When traders sell a stock that loses money, there may be a tax benefit. The wash-sale rule prevents traders from selling at a loss, buying the same or identical investment back within a 61-day window, and claiming the tax benefit.

The wash-sale rule states that the tax loss will be disallowed if a trader buys the same asset, option, or substantially identical security within 30 days before or after the date the loss-generating asset was sold. It has a 61-day window.

This can be a blow to traders who discover that a wash-sale isn’t allowed to be taken for a deduction – especially when a simple mistake occurred that could have easily been avoided. 

A wash-sale for a tax loss could be added on to the secondary basis when a later purchase is less than the initial one. Essentially, a trading portfolio has certain requirements to be met before losses can be claimed to counter gains or earnings.

Concurrent purchases of stock are also disallowed from being used to take a loss if they fall within the 30-day window from the first buy so long as they don’t exceed the secondary purchases. Also, an asset can not have the same CUSIP number or identifier.

For example, should a trader sell a retail stock from one company, but then the same day buy a different retail stock from another company… This is similar. But, even though they are in the same industry, these buys are not the same. The CUSIP numbers are different and this is considered allowable for declaring a loss.

The twist occurs when traders have 1,000 shares of a stock that declines in price. So, the trader then buys another 1,000 shares of the same stock to buy 20 contracts of call options on this same asset. (A trader buys a call option if they expect the price of the asset to rise.)

If the trader then proceeds to sell the stock, but still owns the options, the vehicles are considered substantially equal and a declaration of a loss will not be allowed.

Another example is where the cost basis is $150 so the trader sells the $150 naked put that goes out for 60 days. While the trade may be beyond the 30-day window, it still isn’t allowed.  Once again, the trades involve a substantially equal vehicle and once exercised the trader will own it at $150 which is the same as the selling price.

Think ahead for tax purposes

It is rare to make a trading decision based on taxes unless the trade size is large. Even small accounts benefit from thinking ahead and making sure that moves that benefit the portfolio from a wins and losses standpoint, also benefit traders when they prepare their taxes.

The wash-sale rule prohibits selling an asset for a loss and replacing it with the same or a “substantially identical” investment 30 days before or after the sale. If a trader does have a wash-sale, the IRS will not allow you to write off the investment loss which could make your taxes for the year higher than you hoped.

The IRS does offer certain provisions to offset capital gains, and a certified tax accountant can further explain them. Traders would be wise to find an accountant who is more familiar with options and trading tax laws – although all certified accountants should have a broad understanding.

What and how you trade can have considerable tax consequences. It’s important to know what steps you can take to prevent the unnecessary mistakes that result in bigger payments when the tax man cometh.