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Avoid this expensive tax-time mistake

Nicki Bourlioufas  |  25 Jun 2018Text size  Decrease  Increase  |  
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Share investors need to take care when declaring capital gains and losses, being particularly mindful of the Australian Taxation Office's 'wash sale' rule.

Investors who have incurred large capital losses on shares can use those capital losses to offset any capital gains they have realised. Any unused losses can be carried forward to offset capital gains in future years, without a limit on how long they can be carried forward. Though capital losses from shares can't be used to reduce your taxable income, just the capital gains you declare.

The 'wash sale' rule

This describes the quick sale and re-purchase of securities to minimise tax. "The sort of transactions that the ATO is watching closely are those that generate a tax benefit where a benefit would not have ordinarily been available if the transaction wasn’t entered into in the first place," says Brett Evans, managing director, Atlas Wealth Management.

"For example, if you were unlucky enough to own a lot of Telstra shares, and were to sell some or all of your holdings down due to the company’s underperformance and in turn created a taxable loss, then this wouldn’t be classified as a wash sale

"However, if you were to sell these Telstra shares and then repurchase the same or similar amount back in a short period of time, then it can be argued that the reason for the sale was not because you wanted to reduce your position in Telstra, but to crystallise a capital loss – otherwise you wouldn’t have re-entered the position."

According to Bruce Brammall of Bruce Brammall Financial, the ATO can’t stop you from selling or buying assets, but if you are selling shares to crystallise a loss, he urges investors to be careful.

"The ATO wants to make sure that taxpayers aren’t just selling shares just to get a tax break. So, if you sell shares to crystalise a loss, with the aim of using that capital loss to offset a capital gain on other shares, then buy back the same amount of shares on the same day, or within the same week, they might view that as a wash sale," he says.

According to Colin Lewis, head of technical, Fitzpatrick Private Wealth, other situations that may be considered a wash sale include:

  • where a taxpayer enters into an arrangement to sell and re-purchase an asset at substantially the same price, or just before or at the time of the sale of an asset;
  • purchasing financial instruments that deliver the same financial benefits that arise from the previous direct ownership.

"The ATO is interested in sell and buy transactions that occur in a short timeframe without defining a specific timeframe. Like many things in tax law, there is no 'statutory' timeframe ]to avoid a 'wash sale'], as it generally comes down to whether or not the dominant purpose of the transaction is designed to derive a tax benefit. If that’s the case, then there’s always a risk and will be open for the ATO to take it to task," says Lewis.

Atlas Wealth Management’s Evans adds: "The most important thing to keep in mind is that the ATO's data matching ability has grown remarkably in the last couple of years. If you haven’t been caught in the past, that doesn't mean you will not be caught in the future. A breach in this regard can result in penalties of up to 50 per cent of the tax avoided," says Evans.

According to Chris Wookey, principal of tax, Deloitte Private, wash sale rules apply to self-managed superannuation funds (SMSF) as much as to individual investors. The ATO will also closely review any transactions, including off-market share sales, which in the past have been used to effect wash sales. These can be contrasted to a situation in which an investor genuinely sells an asset to rebalance their portfolio.

"The ATO has a bit of a natural suspicion about off-market transactions and they suspect that the transactions have been back-dated," says Wookey.

"Although off market transfers are not prohibited, anecdotal evidence indicates that the ATO may suspect backdating of the transfer if it produces a 'convenient' tax outcome. This could lead to time-wasting enquiries and questioning, if the ATO's suspicions were aroused.

"Even if the taxpayer is in the right, they could still end up losing because of the time and cost wasted dealing with the ATO," says Wookey.

The ATO may also review transactions where investors holding shares in their own name sell those shares to a family trust or spouse to create a capital loss, and use this to offset a capital gain. In some instances, this could also be considered a wash sale.

So as always, it pays to get advice when preparing your tax return, and to exercise caution in determining what you claim as a tax deduction and how you assess your capital gains.

 

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Nicki Bourlioufas is a contributor for Morningstar Australia.

© 2018 Morningstar, Inc. All rights reserved. Neither Morningstar, its affiliates, nor the content providers guarantee the data or content contained herein to be accurate, complete or timely nor will they have any liability for its use or distribution. This information is to be used for personal, non-commercial purposes only. No reproduction is permitted without the prior written consent of Morningstar. Any general advice or 'class service' have been prepared by Morningstar Australasia Pty Ltd (ABN: 95 090 665 544, AFSL: 240892), or its Authorised Representatives, and/or Morningstar Research Ltd, subsidiaries of Morningstar, Inc, without reference to your objectives, financial situation or needs. Please refer to our Financial Services Guide (FSG) for more information at www.morningstar.com.au/s/fsg.pdf. Our publications, ratings and products should be viewed as an additional investment resource, not as your sole source of information. Past performance does not necessarily indicate a financial product's future performance. To obtain advice tailored to your situation, contact a licensed financial adviser. Some material is copyright and published under licence from ASX Operations Pty Ltd ACN 004 523 782 ("ASXO"). The article is current as at date of publication.

 

is a Morningstar contributor.

© 2019 Morningstar, Inc. All rights reserved. Neither Morningstar, its affiliates, nor the content providers guarantee the data or content contained herein to be accurate, complete or timely nor will they have any liability for its use or distribution. This information is to be used for personal, non-commercial purposes only. No reproduction is permitted without the prior written consent of Morningstar. Any general advice or 'class service' have been prepared by Morningstar Australasia Pty Ltd (ABN: 95 090 665 544, AFSL: 240892), or its Authorised Representatives, and/or Morningstar Research Ltd, subsidiaries of Morningstar, Inc, without reference to your objectives, financial situation or needs. Please refer to our Financial Services Guide (FSG) for more information at www.morningstar.com.au/s/fsg.pdf. Our publications, ratings and products should be viewed as an additional investment resource, not as your sole source of information. Past performance does not necessarily indicate a financial product's future performance. To obtain advice tailored to your situation, contact a licensed financial adviser. Some material is copyright and published under licence from ASX Operations Pty Ltd ACN 004 523 782. The article is current as at date of publication.

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