Trader tax status is harder to achieve for option traders. If you're in this group, read on to learn the tax differences between equity options and non-equity options.
Options cover the gamut of tax treatment. They are a derivative of their underlying instrument and generally have the same tax treatment. For example, equity options are a derivative of the underlying equity, and both are taxed as securities. Read our May 27, 2015 blog post: Tax Treatment For Trading Options.
Equity options are taxed as securities and they include:
- stock options
- options on narrow-based indices
- options on securities ETFs organized as Registered Investment Companies (RIC)
Non-equity options are taxed as Section 1256 contracts and they include:
- options on futures
- options on broad-based indices
- options on commodity ETFs organized as publicly traded partnerships (PTP)
Options on forex were barred by the IRS from using Section 1256. By default, forex is Section 988 ordinary gain or loss and traders can file a capital gains election.
Nadex binary options are not true options and they are considered ordinary gain or loss, not Section 1256.
Wash sale loss rules apply between substantially identical positions, which means between equity and equity options, such as Apple stock and Apple stock options at different expiration dates.
Trader tax status is harder to achieve for option traders
Most option traders don’t day or swing trade like active traders in securities, futures and forex. Option traders trade monthly and weekly options, and their average holding period may be around 30 days. In the Endicott ruling, the court stated that option traders must have an average holding period of under 30 days for trader tax status. Option traders often use complex credit spreads, iron condors, butterflies and other industry terms which call for multi-legged and offsetting option positions. When calculating trades for trader tax status, it’s okay to count each trade confirmation (each leg of a position) separately for volume and frequency of trades. The Endicott decision also said option traders can’t count options that expire worthless as a trade.
For more in-depth information on options tax treatment, read Green’s Trader Tax Guide.Contact us for assistance