A few weeks ago, reader
asked if she could qualify for trader status even though she trades in her IRA. Well, I had no idea the question was going to spark a nerve. The follow-up emails keep coming. So this week's forum has two responses that encompass many of the issues you wrote in about, plus more on identifying lots in stock sales.
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Retiree Wants to Trade In His IRA
I am retired. Most of my retirement assets are in a brokerage IRA and 401(k). My main source of income is from withdrawals from my tax-deferred accounts. I manage my IRA by actively trading stocks to maximize my income. I incur all of the same expenses as any other trader. I don't get a salary and I generate taxable income as I take withdrawal from my tax-sheltered accounts. If my income is greater because of my trading efforts, the IRS taxes me more. If I can't treat trading costs as business expenses, I should be able to pay for my trading expenses with money within my IRA (which I can't). Otherwise, I am withdrawing funds from my tax-deferred accounts to support the management of those accounts and those withdrawals are creating a taxable event. Why is it a risky strategy to say I am a trader? You say that if you say you are a trader, then you are saying that your retirement plan is a business, and you cannot run a business in your retirement plan. But what exactly am I doing, if I am not running a business? -- Elliot Wagner
As far as the Internal Revenue Service is concerned, saving for your own retirement is not a business, says Ted Tesser, trader tax specialist and author of
The Trader's Tax Survival Guide
, who has spent much time deliberating this issue with IRS agents.
So by claiming trader status, you're risking the tax-deferred status of your retirement account because you're saying that it's your business. Granted, there are no court decisions in this area, but this is the current belief at the IRS.
The root of your problem is that your income is not taxed as it is earned in your retirement account. It is taxed as it's taken out. So, sure, the IRS will get its share, but not as a direct result of your trading activity, Tesser notes.
As for your trading costs, you can try asking your broker to charge those miscellaneous fees directly to your IRA account so you don't have to withdraw money to pay them. If your broker refuses, you can always write off those expenses as itemized deductions on your tax return. (See the question below for more detail.)
It may not seem fair that you can't write off your expenses directly against your trading gains, "but whoever said love, war and taxes were fair?" Tesser asks.
Are There Deductible IRA Expenses?
You wrote recently that "in most instances, any trading-related expenses related to a tax-deferred account are not deductible." Can you elaborate on when they are deductible? Specifically, are deductions allowed for subscriptions to newsletters, financial newspapers
Barron's, The Wall Street Journal
and books on investing? I was told that, yes, they are allowed. -- Gene Yetter
Expenses charged directly to your IRA account -- commissions, investment advisory fees, broker fees -- are
deductible, says Gail Winawer, tax securities partner at
American Express Tax & Business Services
in New York. But if you ask a broker to bill those expenses to you rather than charge them to your IRA account, you can take them as deduction on
Schedule A, Winawer says.
Any expenses you incur outside your IRA that help you make trading decisions
deductible as a miscellaneous investment expenses on
Schedule A -- Itemized Deductions
. That includes accounting fees, books, tapes, subscriptions and tax advice. Check out this
list of deductions for more ideas.
Specifics About Specific Identification
I am not a tax professional, but my reading of IRS
Publication 550 -- Investment Income and Expenses,
talks about identification of shares sold. Only if you can "adequately identify" shares sold can you follow procedures to allocate your sales as you wish. The definition of adequate identification strongly implies the existence of certificates. Without certificates, which, I presume, is the case for all stock held in street name, I infer that "identification is not possible." In this case, the clear instruction is that one must use FIFO (first-in, first-out accounting). I am interested in Gail Winawer's comments on this, as I am using my understanding of Pub 550 to plan my sales this year. -- Dan Pierce
I give you credit for attempting to read
Publication 550 --
Investment Income and Expenses
. It's pretty dry.
But that may be why you didn't get to the part that says, "if you have left the stock certificates with your broker or other agent, you will make an adequate identification if you:
1) Tell your broker or other agent the particular stock to be sold or transferred at the time of the sale or transfer, and
2) Receive a written confirmation of this from your broker or other agent within a reasonable time."
So just tell your broker which lots to sell and make sure that your instructions are explicitly stated on your confirmation. "It is totally acceptable by the IRS," Winawer notes.
Besides, "nobody has stock certificates anymore," she says.
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.
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