In almost all cases, the trade date controls the tax-reporting year for a stock sale. That is, if you sell stock by the last trading day of this year, you report the sale on this year’s taxes. The exception occurs when you close out a short sale for a loss, in which case the settlement date controls the reportable tax year.
Trade and Settlement
The trade date is the day a trade executes. The shares belong to you after trade execution, even if they aren’t yet sitting in your account. The settlement date for U.S. stock trades occurs two business days after the trade date, a process known as T+2. On the settlement date, your sold shares are removed from your account and the cash proceeds from the sale are deposited. It takes two business days for trade clerks to verify the transaction and make the transfers of stock and cash.
An amateur stock trader, Bea Sharpe, decides to sell her 500 shares of Amalgamated Widget this tax year for a loss, in order to offset her trading profits. The last trading day of the year is Thursday, Dec. 31, and Bea enters a sell order that executes on that day, which is the trade date. Since Jan. 1 is a holiday and Jan. 2 and 3 are on the weekend, T+2 occurs on Jan. 5, which is the settlement date. Bea reports the loss as of December, and it saves her taxes by reducing her total taxable profit for the year.
Short Sales Are Different
Normally, you buy a stock before you sell it, and you don’t know your profit or loss until the sale. A short sale, which is a method to profit from a declining stock price, has opposite rules if it results in a loss. In a short sale, you borrow shares from a stock broker and sell them on the open market. Later, you repurchase the shares at what you hope will be a lower price and return them to the lending broker, a process known as “covering the short.” For example, you borrow 100 shares of Amalgamated Widget and sell them for $50 a share. Two months later, you buy 100 shares for $45 each and return them to your broker. Ignoring fees, you earn a profit of 100 x ($50 - $45), or $500, on the trade.
Short Sale Reporting Rules
If you close out a short sale for a profit, the normal trade date and settlement date reporting rules apply. However, if you cover the short at a loss, you report the transaction as of the settlement date. Therefore, if you want to close out a losing short position this year so that you can deduct the loss this year, you must buy back the shares no later than two business days before the last trading day of this year, so that the trade has time to settle before the new year begins.
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