Lesson 8 of 25 · 6 min
What a lender's choice of lots does to the outcome
An ordering convention buried in an account setting can multiply a recognised gain fivefold without any price changing.
Which lots a lender sells is not decided by a tax rule. It is decided by a line in an account agreement, and the two produce very different numbers.
A lender selling collateral is solving a liquidity problem on a short clock. It sells what is liquid, in the size required, under whatever standing convention the account carries. That convention is a setting: it may be oldest-first, it may be highest-cost-first, it may be something the agreement names specifically, and it was usually chosen once, by default, at account opening, by someone who was not thinking about a liquidation.
The spread between conventions is not marginal. Take 6,200 shares in three lots — 2,500 at $22.40, 1,900 at $88.15, and 1,800 at $146.70 — with the price at $158.25. The lender sells 2,340 shares, raising $370,305. Under a highest-cost-first convention the basis is $264,060 + $47,601 = $311,661 and the recognised gain is $58,644. Under an oldest-first convention the basis is 2,340 × $22.40 = $52,416 and the recognised gain is $317,889.
That is $259,245 of difference, produced by a field rather than by a price. Nothing about the market, the amount raised, or the timing changed between the two versions. Only the ordering did.
The lender is indifferent between the two conventions, because both raise $370,305. The convention is therefore settled in a place where nobody is watching what it does to a recognised figure.
What conventions an account permits, whether they can be changed, and what any of it means in a given system is a question for a holder's own adviser reading their own agreement. The mechanism is general; the treatment is not.
Key terms
- Standing convention
- The lot-ordering rule an account applies by default to every disposal, including ones the account holder did not initiate.
- Highest-cost-first
- An ordering that disposes of the shares carrying the largest basis first, which tends to produce the smallest recognised gain.
- Liquidity objective
- The lender's actual goal in a liquidation: raising a required amount quickly. It is indifferent to which lots supply it.
Worked example
One liquidation, two conventions
Lots of 2,500 at $22.40, 1,900 at $88.15 and 1,800 at $146.70. The price is $158.25 and the lender sells 2,340 shares.
- Proceeds raised
- $370,305
- Basis under highest-cost-first
- $311,661
- Gain under that convention
- $58,644
- Basis under oldest-first
- $52,416
- Gain under that convention
- $317,889
- Difference in recognised gain
- $259,245
2,340 × $158.25.
$264,060 + (540 × $88.15).
$370,305 − $311,661.
2,340 × $22.40.
$370,305 − $52,416.
Both conventions raised the identical $370,305 the lender needed. The recognised figure differed by more than five times.
Check yourself
A lender raises $370,305 by selling 2,340 shares from lots of 2,500 at $22.40, 1,900 at $88.15 and 1,800 at $146.70. How much does the ordering convention change, and how much does it change for the lender?
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Educational only. Nothing in this lesson is investment, legal or tax advice, or a recommendation to enter into any transaction. Figures are illustrative and computed from the inputs stated in the lesson.