Day Trading Taxes, IRS Trader Tax Status vs Investor Status in the US (Part-1)

Day trading taxes, everyone loves talking about making big Lamborghini money by trading an hour a day anywhere in the world. But not a lot of people talk about how to keep that money. So you don’t get the IRS coming after your ass every April. Dealing with dual taxes with the CRA in Canada and the IRS in the US is not fun.

Day trading taxes in the US

So in this article, we’ll be discussing day trading taxes in the US, what kind of status you qualify for whether as an ordinary investor or trader tax status. and the associated tax breaks you can utilize to save money, legally. So when we’re looking at stock market taxes in general in the US as a regular investor or trader, there are 2 distinct tax rates to know, long term tax rate, and short term tax rate.

Let’s say you make $100K last year in the stock market. And those were profits from positions you held longer than a year. So basically not from day trades. That capital gain would be taxed at only 15% as long term investments. So the total taxes owed to the IRS is $15k, and your take-home is $85,000. That’s a pretty favorable tax rate. And if the long term gains are less than $37,375 in 2019 and less than $40,000 in 2020, You have not taxed anything at all on that income federally.

However, if we’re talking about day trading here, that usually means you buy and sell positions often within the same day, that would be considered short term investments. And the same thing for swing trading as well, you are probably holding a position for a few days to a few weeks. Both day trading and swing trader profit would fall under short term investment. Which is taxed as your ordinary income. So that same 100K capital gain would be taxed at your income bracket at 24%. You would owe the IRS $24,000, and the take-home is only $76K.

This is why it’s so important to keep your long term investment account and your short term day trading or swing trading accounts separate, for accounting purposes. You don’t want to have to deal with a nightmare trying to figure out which investment profits are from long term and short term each spring. Of course, for both the short term and longterm investment examples are with federal tax only, you’ll have to factor in the state tax you’re in yourself.

That’s the basic summary of what kind of taxes you’ll have to pay if you are a short term trader that falls under the ordinary investor status. So if you’re a part-time trader trading on the side while working a full-time job, beginner trader with a small account, and really 90% of day traders out there fall under this investor status category under the eyes of the IRS.

But, as ordinary investor status, which is 90% of day traders out there, you are allowed limited tax breaks. Yes, You can claim your losses to offset your gains. This works for both long term and short term capital losses against the gains. This is if you are not positive on the year.

Now, what if you had a terrible year in the market overall, and you ended the year net negative. for both investing and day trading. You can deduct up to $3,000 of your losses against your income. So if you’re chasing that penny stock breakout this week and made $1000, but next week you do the same and lose $5000. You can only claim $3000 out of that $4,000 loss. And this is for the entire year, you can only claim $3,000 loss against your income.

That’s like, not even enough to afford that $5000 DVD. Any losses over $3,000, it’s just a straight loss, its gone, that Lamborghini money is washed down the drain. You can carry over that excess capital loss credit into the next 8 consecutive years. Which is better than Canada, Canadian investors can only carry our losses over for 3 years, but we don’t have a max $3000 cap, we just have better jokes.

That 8 years carryover period for capital loss in the US, sounds nice in theory, but again, each year, you can only use up to $3000to offset your income each year. For long term investors with profits from over 1 year holding period, that’s still not terrible since they have very favorable tax rates compare to ordinary income, but for most day traders and swing traders who are considered short term investors, that’s not ideal at all.

So maybe think twice before chasing those chat room alerts. Just saying, you know. As day traders, the only efficient way to optimize your day trading income and losses and pay less tax overall. There’s a new IRS tax reform change in Section123 BS that allows you to pay fewer taxes if you tapped that like button. Seriously, remember to talk to your CPA about it, it’ll save you a lot of Benjamins.

Read: Day Trading Taxes, IRS Trader Tax Status vs Investor Status in the US (Part-2)

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IndiaTaxLaws Team is an online knowledge bank for professionals like CA, CS, CMA, Advocates, MBAs, and Finance Professionals. We provide the latest updates, articles, notifications, circulars, court judgments etc. relating to taxation and corporate laws in India.

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