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I am filing as a trader for the first time this April. I intend to elect to mark to market my trades at this point. I only trade S&P futures and OEX options. My first year, I made typical mistakes and have losses in excess of $3,000. If by year-end I have gains, can some of those gains be offset by last year's losses? -- Cleavis Lyons
You have a few issues here.
To start, you may file as a trader if you believe you meet the stringent trader requirements we've spelled out in
As a trader, you can mark to market your trades, which means you must value your holdings as though they were sold at fair market value on the last business day of the tax year. As a result, traders have the option of taking an unlimited amount of losses, which can be used to offset any income. Nontraders' losses are limited to the amount of their capital gains, plus an additional $3,000 a year.
But you must plan ahead to make the mark-to-market election. If you did not make it on your 1998 tax return, you cannot mark your trades to market for 1999. If you want to mark to market your trades this year, you'll need to make that election by April 17. (See this previous
story for more details.)
But if you only trade
futures and options on the
(OEX), you will not have to worry about making this election, says Gail Winawer, tax securities partner at
American Express Tax & Business Services
in New York.
In the tax world, these are known as "section 1256 securities," named for
section 1256 of the tax code, which governs how they're treated.
And section 1256 says that whether or not you're a trader, any open positions in these securities must be marked to market at year-end anyway, and your gains and losses are subject to the 60/40 rule.
The 60/40 rule says that 60% of gains and losses from these securities is long-term and 40% is short-term, regardless of the actual time you've held these securities. The rule applies to regulated futures contracts, foreign currency contracts or options on stock index futures and broad-based stock indices, such as the S&P 100.
You must report your gains and losses from these securities on
-- Gains and Losses From Section 1256 Contracts and Straddles
. Your totals will flow up to
-- Capital Gains and Losses
. Check out this previous
Tax Forum for an example of Form 6781.
If you have losses carried forward from previous years, you may use them to offset any gains you may have had in 1999. But since you are required to mark your section 1256 trades to market, you will not have any leftover losses to carry forward.
Here's a great little provision in the tax code though: If you do have section 1256 net losses in 1999, you may be able to use them to reduce your tax bill from previous years. Section 1256 net losses may be carried back up to three years, but only if you have 1256 income in prior years to offset those losses, says Winawer.
But note: Your section 1256 losses can't be used to offset other types of income, such as a capital gain from a sale of stock.
section 1212(c)(1) of the tax code for more details on carrying back section 1256 losses.
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TSC Tax Forum aims to provide general tax information. It cannot and does not attempt to provide individual tax advice. All readers are urged to consult with an accountant as needed about their individual circumstances.