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Home > Education Center
> Traders Tax
> Commodities vs. Securities  One of the
biggest questions asked - other than "How do I make a profit?" - is how do I
file my taxes. As trading filing rules are a little more complex than your simple
1040ez statement, FuturesKnowledge.com has put together a list of informational
suggestions with the help of GreenTraderTax.com
that should guide you through this process. Please note - we are not a certified
accountant, therefore, you should verify all of your tax questions with either your local
or national government offices (AKA: IRS
Knows Best!).
Commodities vs. Securities [Return to Traders Tax Home Page]
Commodities are taxed differently than securities.
You need to learn about IRC Section 1256 contracts, Form 6781, special carrybacks and how
these all relate to IRC Section 475(f), the new mark-to-market rules.
Commodities and Securities have different tax treatment.
Securities: Investors and "Traders in Securities"
(those who qualify for trader tax
status, but who have not elected mark-to-market
accounting IRC 475(f)(1)) report their trading gains and losses as "capital gains
and losses" on Schedule D (Capital Gains and Losses). Active traders hold positions
for less than 12 months, so they are treated as short-term capital gains and losses.
Short-term capital gains are taxed at ordinary income tax rates. Only realized gains and
losses are reported; positions open at the end of the year ("unrealized gains and
losses") are not reported on Schedule D.
Securities traders with mark-to-market (MTM) accounting IRC 475(f)(1) report their trading
gains and losses as "ordinary gains and losses" on Form 4797 (Sale of Business
Property). MTM trading gains and losses are not subject to capital gain or loss treatment.
They are not subject to the $3,000 capital loss limitation each year, and they are exempt
from wash sales.
Commodities: Investors and "Traders in Commodities"
(those who qualify for trader tax status,
but who have not elected mark-to-market
accounting IRC 475(f)(2)) report their trading gains and losses as "capital
gains and losses" on Form 6781 (Section 1256 Contracts).
Tax Advantage for Commodities: The net gain or loss amount on Form 6781 is reported on
Schedule D (Capital Gains and Losses); 60 percent of the amount is long-term capital gain
or loss and 40 percent is short-term capital gain or loss. As stated above, active
securities traders have all short-term treatment, so commodities traders receive the
long-term capital gains rate advantage.
Section 1256 Contracts: Commodities are IRC §1256 contracts; you can read the entire IRC §1256 here. Section 1256
contracts are marked-to-market at the end of each tax year, so all traders and investors
report realized and unrealized gains and losses. There is no election here.
Do not confuse Section 1256 mark-to-market accounting with the new trader tax laws, IRC
Section 475(f): A qualified commodities trader (one who has trader tax status) may elect IRC
475(f)(2), the new mark-to-market
tax laws. The effect of this election is to convert Section 1256 contracts with capital
gain or loss treatment (60/40 split) into "ordinary gains and losses" reported
on Form 4797 (Sale of Business Property).
We do not recommend IRC 475(f)(2) elections for
commodities traders: Profitable commodities traders would lose the long-term capital gains
rate tax advantage mentioned above. If you lose significant money trading commodities
before April 15, 2002, and wish to exit the business, then elect IRC 475(f)(2) in order to
receive ordinary loss treatment. You will need it.
Net Section 1256 Contracts Loss Election: In the Form 6781 instructions, see the
directive for Box D (Net Section 1256 Contracts Loss Election). When preparing Form 6781,
all individual taxpayers may mark Box D, thereby electing to carry back a net section 1256
contract loss three tax years. You then file an amended return for the carryback year
and you may apply the section 1256 carryback loss on your Form 6781 for that prior tax
year. Note: If you don't have Form 6781 gains in that prior carry back year, you won't get
any benefit from this carry back. So check this before you make this election. Unlike IRC
475(f)(2), you can make this section 1256 carry back election when you prepare your 2001
tax return.
What is and is not a Section 1256 Contract: See the area titled “Definitions” in
IRC §1256
law. There is great confusion among trader taxpayers about
what is a §1256 contract and what is not. For example, how will "single-stock
futures" be classified? Plenty has been written about "single-stock
futures" in Active Trader
magazine. We expect to write an article about this in an upcoming issue of Active
Trader, in Robert Green's Business of Trading column.
Knowing the difference is very important in case a taxpayer qualifies as a trader in both
securities and commodities. That trader might elect IRC §475(f)(1) for securities only
and not elect IRC §475(f)(2) for commodities. That taxpayer would then have capital gain
or loss treatment on §1256 contracts for commodities and ordinary gain or loss treatment
on §475(f)(1) for securities. If that trader lost a large amount of money in a
instrument, he or she would hope it was a security and not a §1256 contract. The reverse
would apply if there was a large gain. We cover this in-depth in our below Guide.
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