Investors can make money in both their long and short positions.
Most traders buy stocks in the hopes their prices will rise and they will sell those shares for more than they purchased them, and thereby make money on those “long” positions.
But there is money to be made when a stock falls too and it’s called “shorting” a position.
Here’s a very simple explanation of how it works: The trader borrows the security, sells it in the open market, and hopes to buy it back later for less money, when it – fingers crossed -- falls.
It’s clearly a risk.
But while it’s a complicated and risky trade, it is NOT tax-free.
So how much will you owe Uncle Sam and where do you report those short trades?
At the end of the day, it's much like a regular trade. Report it on your Schedule D – Capital Gains and Losses, just as a regular sales transaction. That would include Form 8949 – Sales and Other Dispositions of Capital Assets as well.
Calculating your gain and loss is similar too. “The amount you paid when you opened the transaction would be your cost, and then the price, when you when you close the transaction, would be your sales price,” says Lisa Greene-Lewis TurboTax ( (INTU) - Get Report) expert and CPA.
So closing the short becomes your taxable transaction – and it is then that you can calculate your capital gain or loss.
This stuff is complicated and confusing. So be sure to keep track of your trades. And watch the video above for all the details.