SMSFs cautioned on wash sales as ATO issues warning

The ATO cautioned that wash sales are a form of tax avoidance and will be a focus this tax time.

“Wash sales typically involve the disposal of assets such as crypto and shares just before the end of the financial year, where after a short period of time, the taxpayer reacquires the same or substantially similar assets. This is a wash sale and is done to create a loss to offset against a gain already derived, or expected to be derived, in certain circumstances, in a tax return,” the ATO explained.

“A wash sale is different from normal buying and selling of assets because it is undertaken for the artificial purpose of generating a tax benefit for the current financial year. The taxpayer disposes of and reacquires the asset for the deliberate purpose of realising a capital gains loss and obtaining an unfair tax benefit.”

The ATO stated that it would be using sophisticated data analytics to identify wash sales through access to data from share registries and crypto asset exchanges.

“When the ATO identifies this behaviour, the capital loss is rejected, resulting in an even bigger loss to the taxpayer,” the ATO said.

Taxpayers who engage in wash sales, it said, are at risk of swift compliance action and additional tax, interest, and penalties.

It also warned that tax advisors that promote these wash sales strategies or other tax activities may face action from the Tax Practitioners Board.

DBA Lawyers director Daniel Butler said SMSF trustees and their related parties should also be aware of the ATO’s warnings regarding wash sales.

Where SMSF trustees are seeking to realise a loss to offset a capital gain, Mr Butler said it is important they are aware of the ATO’s view in TR 2008/1 on Part IVA of the Income Tax Assessment Act 1936 (Cth).

In certain circumstances, the ATO may seek apply the general tax anti-avoidance provisions in Part IVA to ‘wash sale’ arrangements, he said.

Where taxpayers have disposed certain assets to realise a loss and have then reinvested in different companies or assets, Mr Butler explained that there is unlikely to be any risk of Part IVA applying.

“However, care is needed as Part IVA gives the ATO considerable scope to apply the general anti-avoidance provision and the taxpayer must then defend themselves and wears the burden of proof,” he stated.

Mr Butler noted the outcome in Merchant and Commissioner of Taxation [2021] AATA 915, a case from last year which involved the offset of capital gains.

In this particular case, Mr Butler explained that the ATO alleged that the SMSF acquired around 10 million shares in Billabong (International Limited) from the family trust without giving effect to the fund’s investment strategy. This transfer crystallised a tax loss in the family trust which could offset a significantly higher capital gain and the ATO looked to apply part IVA to the transaction. 

“Many SMSF advisers were surprised of this outcome given the SMSF merely acquired listed securities which is allowed under s 66 of SISA. However, the ATO were seeking to deny the benefit of the tax losses crystallised outside the SMSF”, said Mr Butler.

SMSF advisers, he said, need to ensure they warn their clients about the risks of a whole range of penalties, non-compliance, and disqualification as appropriate when advising clients — especially if there is anything special about the proposed transaction, as the number of SMSF trustees being disqualified has risen significantly in recent times.