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| IRS Tax Forms (Sort Of) Make Sense of Federal Income Tax |
02-14-2008 |
In this highly charged election year, the annual bloodletting ritual known as
federal income tax is once again coming under fire for being capricious,
egregious, convoluted and broken beyond repair. Republican candidate Ron Paul
for one even wants to scrap the whole system for good.
But we’ve heard that rhetoric before and so far at least it hasn’t stopped April
15th from arriving – or the IRS from helping themselves to our hard-earned cash.
Let’s face it: Congress is not about to tweak its revenue stream with a credit
crisis and a housing slump in full swing. If you’re looking for tax reform, best
to pick another year.
Since we have to live with our current tax system flaws and all, it’s a good
time for traders to become familiar with the basic IRS tax forms as well as day
trading tax rules that will make up their federal tax return. But unless you’re
a closet tax geek, it’s unwise to implement tax strategies on your own; one
false move can cost you plenty, possibly even your trader tax status.
We strongly recommend you seek tax strategies and solutions from the trader tax
professionals at Traders Accounting this tax season. We know the day trading tax
rules and we’ll help you prepare an audit-proof tax return that cuts your tax
bill to the absolute minimum. Think of it as your own personal tax reform!
Day Trading Tax Rules: Election of Mark-to-Market Accounting
For most traders, election of the mark-to-market (MTM) accounting method is
among the most important documents they will file with the IRS. Why? Because MTM
enables traders to use tax strategies and solutions to change the tax status of
their earnings from capital gains/losses to ordinary income/losses, thereby
avoiding the $3,000 capital loss limitation and the wash sale rule.
But there’s a catch: You must enclose a statement of intent to use MTM with your
tax return or extension request by the appropriate tax deadline (March 15 or
April 15) the year prior to beginning MTM accounting. For example, to use
MTM on your 2007 return this spring, you would have to have elected mark-to-market
by April 15th of last year.
The one exception: if you’re filing as a new business entity (partnership,
limited liability company or C corporation), you have two months from opening to
note your accounting preference in your meeting minutes. You need not notify the
IRS until the next tax deadline.
IRS Tax Form 3115: Application for Change in Accounting Methods
Your first year using MTM, you will file IRS Tax Form 3115 (Application for
Change in Accounting Methods) and submit it with your tax return. This form
contains a one-time adjustment, Section 481(a), which captures duplications and
omissions resulting from the change in accounting methods. If the adjustment is
$25,000 or less, you may deduct the full amount on your return; if it exceeds
$25,000, you may deduct 25% each year for the next four years.
Schedule C: Profit or Loss from Business
If you file as a sole proprietor and do not elect mark-to-market accounting, you
will follow this day trading tax rule: report your expenses on Schedule C (Profit
or Loss from Business) and your trades on Schedule D (Capital Gains and
Losses). If this seems somewhat incongruous, it is; the IRS considers it
suspicious, too.
Tax strategies and solutions to avoid raising this possible red flag with the
taxman is to trade under a formal business entity (limited partnership, LLC
or C corporation). Tax treatment of business entities is both more favorable
and more routine, and hence less suspect, to the IRS.
Schedule D: Capital Gains and Losses
Traders in stocks, options and single-stock futures who do not elect mark-to-market
accounting report their trading activity on IRS Tax Form Schedule D (Capital
Gains and Losses).
Schedule D contains two parts: short-term capital gains/losses for assets held
less than one year, and long-term capital gains/losses for assets held more than
one year. This also is the form on which wash sale adjustments are recorded.
Because day trading activity often involves buys and sells of unequal shares,
the tax rules state calculations of gain or loss must be broken down into the
smallest number of shares on either the buy or sell side, which can be a time-consuming
and tedious process.
If your trading activity is significant enough to warrant day trader tax status,
chances are Schedule D rules will appear overwhelmingly difficult to complete
without the tax strategies and solutions offered from experienced trader tax
professional. Traders Accounting can help simplify your record keeping and
streamline your Schedule D preparation.
IRS Tax Form 4797: Sales of Business Property
Traders in stocks, options and single-stock futures who elect mark-to-market
accounting report their trading activity on Form 4797 (Sales of Business
Property (Also Involuntary Conversions and Recapture Amounts Under Sections 179
and 280F(b)(2)).
Under the mark-to-market accounting method, all securities that you hold at the
end of the year are treated as if they were sold and repurchased on the last day
of the year; they are “marked to market” for tax purposes. All trading activity
should be entered under Section II of Form 4797 (Ordinary Gains and Losses).
Day trading tax rule: long-term investments that are not part of your trading
business should be entered on Schedule D and not marked to market on Form 4797.
IRS Tax Form 6781: Gains and Losses from Section 1256 Contracts and Straddles
Traders in commodities, including such Section 1256 contracts as futures,
foreign exchange and nonequity options, report their trading activity on Form
6781 (Gains and Losses from Section 1256 Contracts and Straddles). You
enter the gross amount of your Section 1256 proceeds from your 1099 on Part 1,
Line 2 (Net Gain or Loss) of Section 1 (Contracts Marked to Market).
The day trader tax rules offer commodities traders a break by allowing them to
split their Schedule D gains and losses, 60% long-term and 40% short-term. This
is such an attractive deal that many commodities traders choose not to elect
mark-to-market accounting, thereby retaining their profitable 60/40 split on
gains. An added plus from this tax strategy and solution: losses on Form 6781
may be carried back three years against gains.
IRS Tax Form 4868: Application for Automatic Extension of Time
Tax time can be confusing, especially for the first-time active trader. But
there is relief in IRS Tax Form 4868 (Application for Automatic Extension of
Time to File U.S. Individual Income Tax Return). When filed by April 15, the
extension automatically moves your tax deadline three months ahead, to Aug. 15.
A second extension, to Oct. 15, affords you a full six months to file, but it is
not automatic; you must receive the form marked “granted” back from the IRS.
Bear in mind that this tax strategy and solution only buys you time to file, not
pay - if you don’t remit more than 90% of your estimated tax due by the original
April 15 deadline, your extension will be deemed invalid.
Take it from experienced traders who know day trading tax rules: don’t go it
alone when it comes to filing with the IRS. Call today and get the industry-leading
tax strategies and solutions from the professionals at Traders Accounting on
your team this tax season. You know trading; we know day trading tax rules. It
just makes sense.
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