Futures Trading capital gains
Reporting capital gains from futures trading is not quite the same as
when trading stocks and options.
Capital gains from trading IRS Section 1256 contracts such as commodity futures,
index futures, and index options are reported by your brokerage 1099-B
(or 1099-C for tax
years prior to 2006).
What is a futures contract?
According to IRS publication 550 pages 50 and 51:
"A commodity futures contract is a standardized, exchange-traded contract
for the sale or purchase of a fixed amount of a commodity at a futures date
for a fixed price. If the contract is a regulated futures contract, the rules
described under Section 1256 contracts marked to market apply to it. The
termination of a commodity futures contract generally results in capital gain
or loss."
What is a section 1256 contract?
Also according to that same publication, page 39:
"A Section 1256 contract is any:
1) Regulated futures contract
2) Foreign currency contract
3) Non-equity option"
And on page 40 under the Non-equity option heading:
"Non-equity options include debt options, commodity futures options, currency
options, and
broad-based stock index options. A broad-based stock index is
based upon the value of a group of diversified stocks or securities (such as
the Standard and Poor's 500 index)."
Therefore, by definition, any and all of these trading instruments are "marked
to market", or priced to fair market value (FMV), on the last business day of the
year for capital gains and losses calculation. Please do not confuse
these with the IRS section 475(f) "
mark to market" accounting election for traders in securities.
Good news for active traders:
The good news for traders of Section 1256 contracts is threefold:
- 60% of the capital gain or loss from Section 1256 Contracts is deemed to
be long-term capital gain or loss and 40% is deemed to be short-term capital
gain or loss. What this means is a more favorable tax treatment of 60% of your
gains.
- A special loss carry-back election is allowed.
Section 1256 contract net losses can be carried back 3 years instead of being carried forward to the
following year. These losses can only be carried back to a year in which there
is a net Section 1256 contracts gain, and only to the extent of such gain, and
cannot increase or produce a net operating loss for the year. The loss is
carried back to the earliest carry-back year first and any unabsorbed loss can
then be carried to each of the next two years. So if you have a net loss
for the year, you can amend a previous year's tax return and possibly get a
refund!
- Your broker marks all of your open positions to market and reports the
total gain or loss on a 1099. The gain or loss and the 60/40 split from these contracts are reported on
IRS Form 6781 (Gains and Losses from Section 1256 Contracts and Straddles).
Part I, Line 2 of this form simply asks for your broker-provided
1099 total gain or loss, and then it splits this loss as 40% short-term on
Line 8, and 60% long-term on Line 9. These entries then flow to your
Schedule
D - Part I, Line 4 for short-term capital gains and Part II, Line 11 for long-term capital gains.
No additional detail or complex matched trade
report (as required for capital gains from stock, options, and
single-stock-futures) is required.