Capital Gains Tax (CGT) was introduced into Australia on 20th September 1985, by the Hawke/Keating government. The tax generally only applies to assets acquired after that date, with gains or losses on earlier assets (called pre-CGT assets) ignored.
Share investors are encouraged to have a diversified share portfolio of ten or so different shares to reduce investment risk. Normally at any time, some of the investor’s shares will be showing unrealized gains and some unrealized losses.
This strategy is valuable for taxpayers who have sold shares or property and made a capital gain. Under this strategy a taxpayer with realized gains would sell some of their shares that have unrealized losses to make those losses realized. These realized losses will then be available to be offset against the capital gains, so the taxpayer’s capital gains tax liability is reduced or eliminated.
If the taxpayer wants to regain ownership of the shares they sold to realize the capital losses they can purchase the shares back again. The net effect of this transaction is they have crystallised their capital losses and still have ownership of the loss making shares.
When taxpayers are implementing this strategy they need to ensure they don’t fall foul of the ATO legislation on ‘wash sales’. Wash sales occur where a taxpayer sells their shares in a company and buys them back the same day and the only purpose of the transactions was to crystallise capital losses.
Wash sales can be avoided by ensuring that the number of shares sold and bought back in the same company are not exactly the same, or that the purchase of the shares bought back are staggered over time.