Before starting to trade in the Forex market, there are some basics about currency trading taxation a Forex trader should be aware of. Notwithstanding the fact whether a Forex trader is going to become a long-term investor, or whether he/she just plans to try and see how it goes, it must be mentioned that currency market provides enormous tax advantages, especially in comparison with other financial markets.
It doesn’t matter whether a forex trader focuses on forex options/futures or on the spot market – there are tax benefits for both of them. Forex options/futures traders are taxed according to the IRC 1256 contracts in which 60% of gains/losses are calculated as long-term gains/losses and 40% as short-term ones. So, the total tax rate appears to be 23% (compare this to 35% tax rate in stocks trading). Spot forex traders are taxed on the basis of IRC 988 contracts, which provide an enormous loss protection – all losses can be calculated as ordinary losses as opposed to the first 3000 US dollars.
IRC 1256 contracts are more difficult in comparison with IRC 988 contracts – the latter provides the same tax rates for the gains and losses, which makes calculations much easier. In addition, IRC 988 contracts are more favorable for counting losses, while IRC 1256 contracts are more advantageous for the gains calculations.
When deciding which tax group to choose, a forex trader should ground on the expected amount of gains and losses.
If a forex trader consults an accounting firm, they will refer him/her to IRC 988 contracts if he/she has decided to trade on the spot forex market and to IRC 1256 contracts if he/she has chosen to be a futures/options forex trader. The key thing to keep in mind is that it is impossible to change from to IRC 988 contracts to IRC 1256 contracts during the trading year.
It must be mentioned that certainly most of the forex traders expect their gains to exceed the losses, so they often opt for IRC 1256 contracts, since they are more beneficial to gains.
What is important to keep in mind when it comes to forex taxation are the deadlines for filing (it is crucial to choose your tax group before the beginning of the trading year), keeping the detailed tax records and the importance of paying taxes, actually, since some forex traders believe they can get away with it, but are eventually caught up by the IRS.
A sensible forex trader will pay close attention to taxes if he/she wants to maximize the profits and minimize the losses. Proper taxation can save great sums of money, in point of fact, so it is well worth doing.
Alexander Collins is CEO at Forexeasystems, who is chief developer of forex trading strategy ProFx and creator of free metatrader prugin Fx Pulse that shows accurate forecasts and historical data from Forex news, etc.
- One of the Most Famous Forex Trades That Brought Millions (forextradingsystemcentral.com)