Booyah Breakdown: Tax Twists

There are exceptions to the wash-sale rule. It doesn't apply to dealers. And if you're an individual who elects trader status -- meaning you make your living by sitting in your office trading securities -- and you mark-to-market your trades (that is, value your portfolio at year-end as if you were selling it), you're excused from the rule.

Everyone else, read on.

Substantially Identical?

So back to the tax jargon. The rule says you can't deduct the loss on your tax return if you acquired a "substantially identical" security 30 days before or after the sale. Unfortunately, the tax code doesn't really offer up a good definition, so it's kind of in the eye of the beholder. But we'll try to help with some examples.

Shares of the same stock in the same company are, obviously, substantially identical (though preferred stock is not substantially identical to common stock). Beyond that, the best way to illustrate the "substantially identical" rule is to go directly to some strategies for avoiding the wash-sale rule:

Buy stock in a similar company. The stock of one company is generally not substantially identical to the stock of another company in the same industry. So, in our example, if you own Ford but want to need some auto exposure, consider selling your Ford stock and buying GM (GM Quote) instead.

Trade a sinking company for its merger partner. If your favorite stock is in the process of a merger but has recently tanked, here's a way to stay in your stock but still take the tax loss. Let's say you're long the buyer in the merger and the stock is down a lot, but you still like the company. Sell it and buy stock in the target company.