Most traders will anticipate net gains (why else trade?) so they will want to elect out of their 988 status and in to 1256 status. To opt out of a 988 status you need to make an internal note in your books as well as file with your accountant. This complication intensifies if you trade stocks as well as currencies. Equity transactions are taxed differently and you may not be able to elect 988 or 1256 contracts, depending on your status.
SEE: Benefits Abound For Active Traders Who Incorporate
Keeping Track: Your Performance RecordRather than rely on your brokerage statements, a more accurate and tax-friendly way of keeping track of profit/loss is through your performance record. This is an IRS-approved formula for record keeping:
- Subtract your beginning assets from your end assets (net)
- Subtract cash deposits (to your accounts) and add withdrawals (from your accounts)
- Subtract income from interest and add interest paid
- Add other trading expenses
SEE: Top 4 Things Successful Forex Traders Do
Things to RememberWhen it comes to forex taxation there are a few things you will want to keep in mind, including:
- Deadlines for filing: In most cases, you are required to elect a type of tax situation by January 1. If you are a new trader, you can make this decision before your first trade - whether this is in January 1 or December 31. It is also worth noting that you can change your status mid-year, but only with IRS approval.
- Detailed record keeping: Keeping good records (and backups) can save you time when tax season approaches. This will give you more time to trade and less time to prepare taxes.
- Importance of paying: Some traders try to "beat the system" and earn a full or part-time income trading forex without paying taxes. Since over-the-counter trading is not registered with the Commodities Futures Trading Commission (CFTC) some traders think they can get away with it. Not only is this unethical, but the IRS will catch up eventually and tax avoidance fees will trump any taxes you owed.