Learning to generate profits with my trading systems is important, but it is what you add to your net worth that will make a lasting difference in your lifestyle and future. It is difficult to explain the difference that having a substantial net worth can make in your attitude. When you feel truly wealthy, the things and the experiences that your money can buy are secondary to the prosperity of the mindset that you develop. T. Ecker is fond of saying, “The rich really are different and that it is their mindset, not just their bank accounts”.
Traders vs. Investors
The minority who trade for a living are classified as ‘traders’ under the IRS definition and are able to take advantage of a number of attractive tax incentives. The majority who trade part- time and in addition to their W-2 employment income or as a ‘retirement hobby’, do not receive those same tax advantages and, consequently, find only certain trading and investing expenses are permitted as itemized deductions on their personal Schedule A form.
Generally, an active ‘profitable trader’ does not want to use the Schedule A form in order to deduct trading expenses since they are very limited in scope. Rather, you want to qualify as a ‘Professional Trader’ (Trader Tax Status) and file the appropriate tax forms for trading as a ‘business entity’.
The 2015 IRS Publication 550: details the rules for trader status and deduction.
Basically, in order to use the miscellaneous itemized deductions on your Schedule A form, your expenses must exceed 2 percent of your adjusted gross income (AGI), not your trading income/expenses ratio, and should not cause you to trigger the Alternative Minimum (ATM) provisions.
Compare the limited amounts and types of investment expenses deductible on your Schedule A form to all of the types of ‘business expenses’ that the Trader Tax Status allows you to deduct on Schedule C, including the Net Operating Losses (NOL) that can offset other income and be carried, backwards and forwards, across tax years.
The ‘Trader Tax Specialists’ status could save $10,000.00 per year or more in taxes by treating them as a business expense. In addition, a ‘qualifying trader’ may elect to use the ‘mark-to-market’ accounting method (provided that they inform the IRS of their decision before the traditional April 15th filing deadline occurring during that tax year that they plan to use MTM). Since the MTM allows traders to convert capital gains/losses and exempt them from ‘wash sale’ rules, many traders elect MTM over cash accounting.
Mark-to-market losses are losses which are generated through an accounting entry rather than the actual sale of a security. Mark-to-market losses can occur when they are valued at the current market value. If a security was purchased at a certain price, and the market price later declines, the holder would have an unrealized loss and could write down the loss marking the security down to the new market price, thus resulting in the mark-to-market loss. Mark-to-market accounting is part of the concept of fair-value accounting which attempts to give investors more transparent and relevant information.
So, what is the difference between “Trader Tax Status” and ”Investor status”? If your trading was profitable, you could have saved thousands upon thousands of dollars legally treating your trading as a business. And if you had trading losses, you have the ability to write off those trading losses within the year that it occurred.
The loss in the year that it occurred could have resulted in a savings of greater than $20,000.00, or more. (All of this is for purely educational purposes. You need to consult your expert before executing any of this information.)
Over the years and in my book “Technical Trading Mastery” I touch on the topic of treating your trading as a business.
To learn more visit my website: The Technical Traders.com
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