The Internal Revenue Service (IRS) has created a stringent collection of filing requirements for investors across a broad array of interests and disciplines. Understanding the basic information needed for particular forms of investments, such as when individual short sale securities, can help ensure that you don't incur any unexpected penalties or fines when filing your taxes at year end.
Understanding Short Sales
A short sale refers to borrowing stocks from another investor and selling them at prevailing prices. If the stock's price declines later, you can buy the same amount of shares back for less, return them to the investor and pocket a profit equal to the decline in the stock's value. Should the stock price advance, you will lose money. In either situation, the short sale tax implications are equally important for all investors
Looking for Reporting Requirements
Confusion might arise on how to report the short sale if you short the stock during one tax year and buy it back the following year. Naturally, your brokerage statements will show a sale, but there will not yet be a purchase price or net profit or loss to report. This conundrum may lead to some confusion for investors who are eager to solidify their short sale tax filing plans.
Obtaining the Appropriate Forms
Download Form 8949, "Sales and Other Dispositions of Capital Assets," from the Internal Revenue Service website. You will report the sales proceeds for all trades that occurred during the tax year on this form. If you have purchased a stock, but have not sold it as of the end of the year, the sale will not be reported on this form. However, if you have a short sale, even if you have not yet bought the stock back and the trade is still "open," you must report the sales proceeds from the sale on Form 8949.
The instructions for Form 8949 direct you to enter the description of property, which can be your stock's ticker symbol, in Column A of Part 1 on the first page of the form. Leave Column B (date acquired) blank, because you have sold, but not yet acquired, the stock. Column C holds the date you sold the shares. Column D is where you'll enter the total sales proceeds.
Column E is for reporting cost or other basis. Leave Columns F and G blank (adjustment to your gain or loss and its associated code) because you have not yet completed this transaction. Subtract the amount in Column E from the amount in Column D and enter this amount in Column H.
Reporting Your Short Sale Securities
Report the gain or loss from the short sale in the tax filing of a subsequent year. While it is rare for an investor to keep an open short position for more than a year, you can, in theory, cover the short after several years.
On the tax return of the year when you buy back the stock, report the gain or loss just as you do for any stock. Your net gain or loss is, as usual for stock transactions, the difference between your net sales proceeds and your net cost. The only difference in case of a short sale is that the sale occurs before the purchase. This, however, does not change the basic math.
Hunkar Ozyasar is the former high-yield bond strategist for Deutsche Bank. He has been quoted in publications including "Financial Times" and the "Wall Street Journal." His book, "When Time Management Fails," is published in 12 countries while Ozyasar’s finance articles are featured on Nikkei, Japan’s premier financial news service. He holds a Master of Business Administration from Kellogg Graduate School.