How the Wealthy Save Billions in Taxes by Skirting a Century-Old Law

https://www.propublica.org/article/irs-files-taxes-wash-sales-goldman-sachs

by ValentineC • 3 years ago

103 162 3 years ago

TLDR - by using tax loss harvesting . At the end of the year, sell your stocks which are down and then buy them back. Then you can use the losses to offset the gains. Although this is also available to masses .

chii• 3 years ago

In some jurisdictions (such as Australia), this is called a wash sale, and is illegal.

ojbyrne• 3 years ago

The entire article is about wash sales, basically describing ways to circumvent the rules.

merek• 3 years ago

The IRS will also reject the reported loss if it qualifies as a wash sale.

You cannot deduct losses from sales or trades of stock or securities in a wash sale unless the loss was incurred in the ordinary course of your business as a dealer in stock or securities.

https://www.irs.gov/pub/irs-pdf/p550.pdf

klyrs3• 3 years ago

Although this is also available to masses .

Not in any meaningful sense. Only the ultra-wealthy can wipe out the lion's share of their tax bill through this loophole. From the article:

Someone like Ballmer can easily deploy $100 million in losses to cancel out a $100 million gain from selling some of his vast Microsoft holdings. It’s a very different story when it comes to wages and other forms of income, of which only $3,000 can be offset. On average, only the top 0.001% of taxpayers made a majority of their income through investment gains in 2018, according to public IRS data.

missedthecue3• 3 years ago

If he's eating $100 million in losses in one investment and gaining $100 million in another, he's not any richer at the end of the year. I'm not sure what the outrage is.

But like you say you can only deduct $3000 of capital losses per year. Completely and entirely immaterial to a billionaire like Ballmer, but very valuable to someone in the middle class or lower.

refurb7• 3 years ago

Absolutely the masses can use it.

Last year was a great time to do it. SP500 was down, but many tech stocks weren't (yet).

Sell your Vanguard ETF, use the loss to offset the tech stock you sold with huge gains. Buy back another ETF that is highly correlated with the SP500.

Net capital gains = $0 and you still hold the same SP500 position as before.

foxyv2• 3 years ago

Betterment lets you do it through their pseudo index fund.

mathgladiator• 3 years ago

You don't buy back the same stocks, you buy back similar stocks or ETFs.

jjtheblunt• 3 years ago

you might buy back the same stocks, to game the longterm vs shortterm capital gains rules, no?

bmitc• 3 years ago

Quit taxing the ultra wealthy as if they're some regular joe pulling a yearly salary or hourly wages. Their wealth game is different, so tax them differently.

rekabis• 3 years ago

I have been talking of a Net Worth tax for some time now.

Start at a value that is truly eye-watering for your average citizen, one which the lower-99% will never reach in their lifetimes. Say, for argument, $10M.

Implement an algorithm that plots out a Sigmoid Curve - 0% taxation at $10M, and increasing slowly at the beginning. Once it gets close to the inflection point, it rises rapidly to over 80% taxation, at which point it then slows down again, reaching 100% taxation for everything above the maximum value.

Which would be set at something truly ridiculously high - say, $100M.

That way, we have a smooth curve that cannot be “gamed” anywhere as easily as abrupt taxation levels. And we use simpler, market-valued assets from anywhere in the world that focus on how the hyper-wealthy sock away their wealth.

As such, any sort of classic investment is most definitely on the table, especially if it is ever valued by an open market. Housing, land, gold, stocks, bonds, business partnerships, you name it. All on board for taxation.

The nice thing about Sigmoid curves in a taxation role is that they start off incredibly gentle - you will likely not may much tax at all until you hit $25M of net worth, because it’s paid progressively on any amount above $10M. But at the same time, you pay 100% taxation on any net worth above $100M.

It is truly a progressive tax, leaving plenty of room for the ambitious, but is punishingly draconian on the vampiristically greedy.

hervature• 3 years ago

Your whole comment just shows how little you understand about the problem. The problem is not that governments do not know what a "Sigmoid Curve" is. The problem entirely lies in "Net Worth tax". How do you determine net worth? With all the different types of corporations out there, you just move your net worth into an entity that you do not "own". Just like how my work laptop is not mine. If your conclusion is to tax businesses on net worth, that would be easily skirted with international boundaries and drastically lower business creation.

NotYourLawyer2• 3 years ago

10 million dollars is not that much money.

strken• 3 years ago

The problem with this is it basically just bans everyone from owning a company, and/or puts a limit on the growth of their company. Maybe you want that, but it's going to have weird implications around divesting wealth before the government can get to it and/or disincetivising companies to grow beyond a certain point.

jjeaff7• 3 years ago

The problem with those super high rates now is that the super wealthy will just move overseas and renounce their citizenship. So you have to get other countries on board, the super wealthy are far too mobile.

donmcronald3• 3 years ago

And when they complain it’s all “paper wealth”, offer to take that. Let them pay a wealth tax with stocks. Then set up a public trust to manage a huge fund that has a mandate to invest ethically and favor industries that are good for the advancement of everyone, not just the wealthy elite.

notch898a3• 3 years ago

The only people I expect to manage wealth worse than greedy execs/capitalists is bureaucrats and politicians.

As much as I oppose the idea, if it must be done, the only way I can see the government not squandering and corrupting all the money is to just immediately distribute it amongst the populace.

refurb7• 3 years ago

Exactly.

If someone joins a start-up and cashes out with $10M, tax it at 60%, not 20% long-term capital gains.

Nobody needs more than $4M.

mjh2539• 3 years ago

$4M at 3% annual interest is $120,000/yr. In some parts of the country (NYC, SF) that is barely enough (or even not enough) to retire on.

dataflow19• 3 years ago

I don't really understand how this works. So you buy stocks A and B in identical amounts, and A increases by the same amount that B drops. You need cash, so you sell A, but you don't want to pay taxes on the gains on A, so you trade B to offset the losses. But that lowers B's cost basis, so the next time it rises, you'll have more of a tax liability than you did earlier, right? Whereas if you didn't trade B, you'd have avoided that difference. I feel like I'm not thinking it through sufficiently - how does repeating this process end up being a net benefit for you?

Update/summary for those reading: The answer seems to be (if I understand the comments below correctly) that inherited assets' cost bases magically get stepped up to their fair market value without tax consequences, which would explain why kicking the can down the road is beneficial, as well as one reason why generational wealth is such an incredibly impactful loophole.

twalla3• 3 years ago

It's more like this: stock A offers exposure to X (say resource extraction, pharma, tech, small cap growth.. whatever). Stock A also went down in value this tax year but you're still confident in your investment thesis, so you find stock B, which also has similar exposure, this could be a different ETF, a different company or even a different class of shares in the same company (sell GOOG buy GOOGL). You sell A to create a loss on paper and purchase B with your proceeds. This allows you to create paper losses to offset your tax liability from any sales that produced capital gains while keeping, roughly, the same allocation without violating the wash sale rule.

dataflow19• 3 years ago

I guess perhaps what I'm not quite understanding is why wash sales are disallowed in the first place - because, again, if you lower the cost basis, you will be liable for the difference in the future, so why does it make a net difference?

berberous7• 3 years ago

You are right that it defers, but does not eliminate, taxes; however:

1. You can use losses to offset $3k of ordinary income per year.

2. Tax deferral is still advantageous. For example, you can defer until retirement when your tax bracket is lower, and also allow that amount to compound in the meantime.

3. If you die, your heirs get a step up in basis, so the tax is in fact ultimately avoided.

dataflow19• 3 years ago

For a billionaire, (1) and (2) seem basically irrelevant; if they're loopholes at all, they seem to favor the non-billionaires. That leaves us with (3), which baffles me - if the cost basis is allowed to rise without paying any taxes (?!) then isn't that the real source of the problem, rather than the wash sale? I feel like I must be missing something here - why get angry over wash sales and prohibit them if the real issue is something else entirely? Shouldn't inheritance basis step-up be the real subject of discussion?

MikePlacid8• 3 years ago

Re 2 - we are talking about stocks, they are taxed independently of your tax bracket. Tax % on stocks changes only when law changes, and this can only rise, given our current situation.

Overall, the article is against tax planning, picturing it (deliberately? due to math incompetence?) as tax avoidance. You do not need to be Steve Balmer to wish to use some tax planning, ask me how I know - and I am just a software engineer.

seanhunter• 3 years ago

It's not that.

Let's take a concrete example given in the article. BHP group. You can buy BHP shares in 3 different primary listings. BHP.L[1] (on the LSE, listed in GBp), BHP[2] (on the NYSE, listed in USD) or BHP.AX[3] (listed in AUD on the ASX). These are fundamentally the exact same shares in the same company, but are listed in different countries. The only difference between them is the listing currency you pay to buy/receive on sale. When you receive the shares you actually get the same exact ISIN (I believe).

So say you hold some BHP and its price is underwater at the moment. You believe in the long-term prospects of the company and have made profits in general that you have to pay tax on. You could sell the BHP, realise the loss (offsetting these other taxes to an extent) and buy again. However that "bed and breakfasting" (as it used to be called in the UK) has been declared illegal. If you were to sell in the US and then immediately buy on any US market that would be illegal. But if you sell in the US and then buy in London or Sydney (in this example) that is allowed.

How the tax advantage works is you are literally taking an extra mark-to-market loss and offsetting that against other profits. Yes if you instead held and eventually made a profit you would pay less in that scenario, but in that scenario you are paying in future dollars whereas with the offsetting you are gaining today's dollars. Today's dollars are more value because of discounting.

[1] https://finance.yahoo.com/quote/BHP.L?p=BHP.L&.tsrc=fin-srch

[2] https://finance.yahoo.com/quote/BHP?p=BHP&.tsrc=fin-srch

[3] https://finance.yahoo.com/quote/BHP.AX?p=BHP.AX&.tsrc=fin-sr...

theGnuMe• 3 years ago

If you read the article it is straightforward. Companies have two securities that are "legally distinct" and you sell one for the tax loss and buy the other to keep your position.

dataflow19• 3 years ago

My question was not about the tactic but about the strategy.

exabrial• 3 years ago

Good for them. The only thing that upsets me is that this technique is not available for everyone.

Watching the us government fire a $150k missile from a $170m fighter that costs $25k/hour to fly at a $250 balloon ticks me off. That’s my money. It was taken from me unwillingly and transferred to to some elite 1% senator’s golf Buddy.

Taxes are stupid and we need to move past them if we’re ever to advance as a civilization.

carlosjobim3• 3 years ago

You are among the very few who broke free. But you cannot help those who don't want to be helped, they belong to the system.

lostlogin3• 3 years ago

I’m missing the key part of this, how would things get paid for?

notch898a3• 3 years ago

Voluntary transactions and/or illegitimate violence.

quickthrower28• 3 years ago

And how does defence work? There would be no fiat money anymore as it’s basis is gone so guess it is Gold or Bitcoin.

You would need to defend yourself so you need guns. But that would be useless against groups of people with guns so people will form groups that defend themselves. Eventuality some of those people will specialise and some people in the group pay others to defend the group in a form of a kind of “tithe” or regular payment to the common good.

YourDadVPN• 3 years ago

Couldn't the government just print money, which devalues the currency, and is thus essentially a flat rate wealth tax?

carlosjobim3• 3 years ago

Maybe everybody can start paying for their things themselves instead of forcing others?

berberous7• 3 years ago

This technique is available for everyone.

jjeaff7• 3 years ago

Only technically. The overhead to manage this rarely works out for the less than wealthy. Not to mention most non-wealthy people make most of their income as earned income.

tsimionescu2• 3 years ago

Paying exorbitant fees to market makers who get to set the price to whatever they want directly (or invest billions in PR to control the market indirectly) is so much better than paying taxes to an entity you have some democratic control over!

refurb7• 3 years ago

I know plenty of middle-class people using this technique as well, it's commonly called "tax loss harvesting".

Close the "loophole" (not a loophole, it's just following the law as written) and it'll impact way more than just the wealthy.

quickthrower28• 3 years ago

In australia they could say this makes you a professional trader and now it is all subject to income tax and more scrutiny.

SamReidHughes5• 3 years ago

The article's specifically talking about switching between nearly identical securities. Tax loss harvesting is more general.

refurb7• 3 years ago

Its done the same way.

You swap one security for another, almost identical one and take the capital loss.

jjeaff7• 3 years ago

I would wager it would affect middle class significantly less as a percentage of their total net worth than the wealthy. Considering that most middle class wealth is in their primary residence and not the stock market. I'm sure closing the loophole could be easily offset for then by slightly lowering income tax on the lower brackets.

monero-xmr3• 3 years ago

$100 million tax bill -> move $100 million into Donor Advised Fund -> open family foundation and hire yourself / kids / friends at ~$500k per year leadership roles -> DAF moves $100 million into the family foundation -> money back to self, host galas / high society events, enjoy life

quickthrower28• 3 years ago

Is this legal?

monero-xmr3• 3 years ago

Yes

donmcronald3• 3 years ago

If you have to ask, you can’t afford it. Lol.

jjeaff7• 3 years ago

Yes, but if you have a $100m tax bill, you would need to donate more than that to offset the taxes. Assuming a 33% tax rate, you would need to put $300m into a foundation to zero out $100m in taxes.

UIUC_06• 3 years ago

DAF and "family foundation" are two alternate things. The latter is much more lawyer-intensive.

monero-xmr3• 3 years ago

The DAF can be done quickly for the tax writeoff. Then you follow up with family foundation set up properly

quickthrower28• 3 years ago

Tax capital gains the same as income. Tax on unrealised gains (minus losses). Tax quarterly. Then this problem goes away.

But the rich wont vote for that!

NotYourLawyer2• 3 years ago

Taxing unrealized gains is unworkable.

quickthrower28• 3 years ago

Politically maybe but not practically.

What are property taxes? Effectively this but for a specific asset.

Granted they are not based in the rise in value. But the idea of paying tax for holding something is not new.

heleninboodler5• 3 years ago

Changing the definition of what constitutes "realizing" a gain is workable, however. For example, if you put $50M in stock as collateral against a loan to buy your yacht, you are very explicitly "realizing" the value of that, both by getting multiple parties to agree on its value and put it on record in a federally-regulated transaction (realizing in the sense of "making the value real"), and by actually getting a corresponding wad of cash out of it (realizing in the sense of "reaping the benefit"). Using the fact that it hasn't actually been "sold" as the basis of a claim that its value is "unrealized" should be recognized as the tax dodge it is.

hn_throwaway_997• 3 years ago

But the rich wont vote for that!

The middle class wouldn't vote for that either.

sakopov• 3 years ago

The wealthy can skirt this by hiring tax attorney to gift their assets to some kind of charitable trust and get annuity payments to live off of and pay minimal to no tax. While the rest of us will actually pay the tax... that is if you find any incentive to even participate in such market. All of these boneheaded ideas only end up taxing normal people in the end. The ultra wealthy have other plans.

SamReidHughes5• 3 years ago

The title is a lie.

They just defer taxation to a later year.

What tax harvesting moves like this get you is better compounding, and the result is, you pay more taxes (on more gains) later.

tsimionescu2• 3 years ago

Not if you keep doing it until the day you die.

gamblor9562• 3 years ago

Wash selling, add this strategy is known, is not actually legal in the U.S.

Years ago at a firm, I had a client they to convince us to do this for them. The partner told them they weren't paying us enough for him to risk the prison time.

And yes, if you get caught, you still pay penalties, and interest, and if the amount is large enough you can look forward to a taxpayer paid vacation to a minimum security federal penitentiary.

hn_throwaway_997• 3 years ago

You should read the article.

gamblor9562• 3 years ago

I did read the article.

The entire article is about wash trading.

The thing about tax is that "strategies" like this which are clearly contrary to the intent of the law but which technically fall within the letter of the regulations can be made explicitly illegal after the fact, so the lack of prosecutions to date is not an indicator of their illegality. See the Bermuda loss harvesting scandal from the early 2010s.

Goldman's partners are simply banking on being able to place enough former employees in the regulatory agencies to get away with it this time. It didn't work for the Bermudan loss harvesting schemes and it probably won't work this time.

occamrazor3• 3 years ago

Why not tax, at least for publicly traded stocks, the unrealized capital gains? (taking e.g. the last price of the year as basis)

In addition to the problem mentioned in the OP, this would also solve taxation for buybacks.

jross225• 3 years ago

In addition to being a highly volatile source of revenue to the government, you would have to give tax breaks for unrealized capital losses out of fairness; which would introduce a ton of complexity.

occamrazor3• 3 years ago

Yes, tax would be paid on the net capital gain for the year. If negative, it can be carried forward to the next year, without limitations.

I don’t know if offsetting non-capital income with capital losses should be allowed. My intuition says no, but who knows.

compsciphd4• 3 years ago

the US government already effectively does this to foreign resident citizens who buy PFICs (and why us citizens are strongly encouraged not to buy PFICs).

the reason its problematic is that just because a persons assets have risen, doesnt mean they want to sell, and if they dont sell, it means they need the liquid assets to cover said tax bill. a tax of this nature forces people to sell assets which is problematic. Its not problematic to say you sold X assets at profit Y, its your responsibility to retain percentage Z of that to pay the taxes.

amadeuspagel• 3 years ago

In November 1920, a reader of The Wall Street Journal identified as R.H.T. wrote in with a question.
“I do not want to sell these stocks at the present market,” wrote R.H.T. “Would it be legal for me to sell these stocks and deduct the loss from this year’s income, even though I bought them in again the same day?” Yes, the Journal responded, the transaction was permitted under the law.

A long history of attempts to patch this "loophole" follows, but the really curious thing is how this is advantageous in the first place. As far as I understand it's because the tax system was developed to tax wage income, and a system to tax investment income is kind of bolted on. With wage income it makes sense to tax it yearly and there's no concept of wage losses.

foxyv2• 3 years ago

Both Shell and BHP offered two different versions of their common stock. For each company, the two stocks were legally distinct, but they performed very similarly because, after all, they were shares in the same company.

Sneaky snakes! So they are wash selling without really selling anything so they can harvest the maximum tax losses every year without actually making any sales. There are lies, dang lies, and tax accountancy...

MikePlacid8• 3 years ago

“Wash sale” prohibition is mathematically absurd. “Two different versions of a common stock” is just a mathematical proof of the absurdity.

ravivooda• 3 years ago

Slightly different tangent but people do this with ETFs all the time. I built a tool that shows potential swaps to harvest losses for taxes but keep similar exposure. Checkout taxlossharvestingtool.com

Maursault3• 3 years ago

If a multi-billionaire hates taxes so much, why not just stop making money? I don't understand why avarice is so important when you have more money than can be spent in two lifetimes. Taxes are a portion of income and generally are not more than annual income. As long as there is a net gain, even if it is smaller than it would be tax-free, why not be a good guy instead of an asshole? We really need to make it astoundingly unprofitable for billionaires to skirt taxes because its billionaires driving up everyone else's taxes. If cops can seize over 50K asset forfeitures every year from non-billionaires and non-millionaires and non hundred-thousandaires, then surely we can tolerate seizing nearly all of the merely the top 50 billionaires' wealth, and leave them with a token $200M each to scrape-by.

Please stop voting for candidates that are members of the party that's primary purpose is to prop up the uber rich and make them richer, faster, at the expense of everyone else. The 2nd Amendment isn't ever going anywhere, and you will never, never ever advance economically voting against your personal economic interests. If everyone voted only in their personal economic interests, employment would skyrocket, crime and poverty would plummet, and the economy would boom. The uber rich aren't stupid with their votes, 99.9% of the other members of their party are.

atonse• 3 years ago

The same kinds of people that aren't satisfied with making $5m, and want $50m, or $500m, or $5bn, can't psychologically fathom letting go of a single penny to anyone else, whether it's their competitors or the government.

That's the problem. To many of them it's a score.

Maursault3• 3 years ago

Balmer increased his wealth 0.2%. For every thousand dollars he has, he saved two measly bucks. Mental illness may explain it but it is not a justifiable excuse for irrational behavior.

MikePlacid8• 3 years ago

I have a “living experience” in a country where (potential) billionaires were not allowed to make money. Believe me, you do not want to be there.

Maursault3• 3 years ago

Not what I suggested, only that once you have billions of dollars, there are better things to do with one's time than obsesses about relatively petty amounts. One can only live for so long and only spend so much, so it simply isn't rational to waste any time whatsoever attempting to increase wealth at such a minuscule amount to what you already have. $132M represents 0.2% of Balmer's $58.3B, and he's that much closer to death for having wasted any time whatsoever for such an absurdly small gain, relatively speaking.

How the Wealthy Save Billions in Taxes by Skirting a Century-Old Law

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