401(k) & Wash Sales

[Lion]

I find lots of info re regulations on Wash Sales and IRAs, but haven't found anything that addresses 401(k)s. A client who's an employee with a 401(k) emailed me:

Am I correct that the wash sales rule do not look through separate private and 401k accounts? In other words, if I simultaneously sell stock from my private account and repurchase the same stock in my separate 401k account, I will not trigger the wash sale rule, right?

[JohnH]

This is the only thing I could find on a quick search.

http://www.irs.gov/pub/irs-drop/rr-08-05.pdf?

Charles Schwab says it is considered a wash sale.

"What happens if I sell at a loss in a taxable account and then immediately repurchase it in a retirement account, such as an IRA?
The IRS has ruled (Rev. Rul. 2008-5) that when an individual sells stock or securities for a loss and causes his or her IRA or Roth IRA to buy substantially identical stock or securities within 30 days before or after the sale, the loss on the sale is disallowed under section 1091 and the individual's basis in the IRA or Roth IRA is not increased by virtue of section 1091(d)."

This surprised me, because it seems to result in complete loss of basis.

[ATSMAN]

I think the difference between your typical IRA and 401(k) plan is that a 401(k) plan has a "trustee" and the plan assets are owned by the trust. Hence any transactions (buying and selling) of individual securities is done by the trust not the individual participant.

[Roberts]

I think the difference between your typical IRA and 401(k) plan is that a 401(k) plan has a "trustee" and the plan assets are owned by the trust. Hence any transactions (buying and selling) of individual securities is done by the trust not the individual participant.

I'd say if the 401(k) trustee is managing the account as if through a mutual fund and you don't have control over the individual trades, I'd agree. (401k assets are not owned by the trustees)
If it is a self directed 401(k), I think you are in a different scenario.

While the original rule didn't apply to 401(k) accounts directly and I haven't seen if the IRS has given further guidance directly, I think if you are using a self directed 401(k) and directing the trades yourself, they would see it as being equal to an IRA if challenged.

[Lion]

I'd found John's reference as well as some more that are specific to IRAs and some that refer to retirement accounts but then use only IRAs in their examples. Knowing this client, he probably has a self-directed 401(k). I think a self-directed 401(k) would certainly fall under the wash sale rules, even though I haven't found anything to state that. I'd already told him the probable answer was No. But, have been trying to find something in the Code or Regs or (he's a lawyer for a bank) that's specific to his situation. Gee, do you think he has resources to research this himself!

[JohnH]

He needs somebody to blame if he gets it wrong...

[Roberts]

He needs somebody to blame if he gets it wrong...

I posted about 2 weeks ago about an older client who want to rearrange his entire investment portfolio, avoid all tax (at 80 years of age) and reinvest it all. Makes ZERO sense except that he's bored and wants excitement in his life.

Now he wants to take the IRS to court to get the Alternative Minimum Tax thrown out as illegal.

[Lion]

This guy earns over six figures, so a 1% error is over $10,000. I was not going to tell him he could avoid the wash sale rules by using his 401(k) to repurchase stocks he sold personally unless I could find something exactly on point, which I couldn't. So, I told him No. But, it did get me curious, so I continue to search. (By the way, his response to me was Boo.)

[Nashville]

What am I missing?

Not to insult any of you who have posted, but why is this even an issue?

As long as the subject securities are held within a 401k, neither gains nor losses are reportable. i.e. if the guy sells the thing for a loss and then buys it back, there is still a 401k with untaxed money which has deferred all income, gains, losses since its inception.

Whatever is in this 401k after the guy is done screwing around with it will be income upon distribution of the money.

I'm worried I might have missed something in this conversation with usually intelligent forum members.

[Lion]

My guy wants to sell stocks at a loss from his personal account and take the loss for tax purposes on his 1040, actually reduce his gains as he does well with his stock trades. Then he wants to purchase those same stocks immediately within his 401(k). I think this would trigger the wash sale rules, and he would NOT be able to take the loss against his other gains on his 1040. Yes?

[ATSMAN]

Playing devil's advocate, how would IRS know that a wash sale transaction took place since a 401(k) plan does not file any report with IRS with individual stock transactions. It does file a Form 5500 with DOL but schedules G,H, I does not capture this level of granularity?

[Golden Rocket]

Mystery revealed

wants to sell stocks at a loss from his personal account and take the loss for tax purposes on his 1040, actually reduce his gains as he does well with his stock trades. Then he wants to purchase those same stocks immediately within his 401(k). I think this would trigger the wash sale rules, and he would NOT be able to take the loss against his other gains on his 1040. Yes?

Ah yes, Nashville's question is answered. He wants to take a personal loss and buy back under his 401k (a different entity).

I can see where there is no universal opinion on this, also nothing from the IRS. Frankly, I think the scheme is remarkably innovative, and I don't see why he couldn't do this.

IRS might say this is disallowed under wash sale rules, but I don't believe they could cite their position. They may also regard the repurchase as a "disallowed transaction" within the
401K, but I don't see this listed anywhere either. Of course, they have an eons-old record of crossing entity lines when they believe entities (particularly embedded corporations) are created for the sole purpose of masking unfavorable tax consequences. But the 401k was obviously not created for that purpose either. In order to apply the wash sale rules, they would have to cross the line between his personal account and his 401k.

If he were my client, I would support his position as I do for clients who are clearly in a grey area.

Additionally, I've just read the post by ATSMAN, and I agree there would be no trail for IRS to intercept this. Lack of a trail doesn't make it right or wrong, but if it's not wrong, lack of a trail gives a measure of comfort.

[Lion]

I would know. The preparer knows or should have known.

Yes, I will fight his case as hard as he wants me to. He is my client. I'm not the IRS police.

But, as far as advising my clients on the law, I'm trying to find out what the law is and all my research into this issue starts out with "retirement plans" but veers off into "IRAs." So, I'm still searching for something specific to 401(k)s.

[TaxGuyBill]

I would THINK wash sale rules apply to 401k's.


Revenue Ruling 2008-5 applies the wash sale rules to IRA's.

http://www.irs.gov/pub/irs-drop/rr-08-05.pdf

It points out that an IRA is defined in Section 408 as "a trust ... for the exclusive benefit of an individual or his beneficiaries".

It cites a court case that applies the wash sale rules when this was done with a "trust over which the taxpayer had absolute dominion and control", and the court said "the rule of strict construction should not be unduly pressed to permit easy evasion of a taxing statute ... a trust like this one could be used deliberately to accomplish the very thing which Congress intended to frustrate ... The difference between acquisition by him personally and acquisition by the trust amounts only to a refinement of title and may be disregarded".



Section 401 uses the definition "A trust created or organized in the United States and forming part of a stock bonus, pension, or profit-sharing plan of an employer for the exclusive benefit of his employees or their beneficiaries".

The way I read it, if the individual has control over it ("absolute dominion and control"), the same rules would apply.

[Lion]

Thanx, Bill. That's the way I'm reading all these cites. And, that's the way I advised my client -- actually quoted to him; he's a lawyer, so I let him interpret. If he doesn't follow that, I'll do my best to make his case. Although, as has been mentioned, it probably won't raise a red flag and will never be questioned. He's a pretty conservative guy, so I don't think he'll push it.