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Do I qualify as a trader or an investor?

by TurboTax Updated 2 weeks ago

There are different tax implications for traders and investors, so it's important to know which you are.

To qualify as an investor, you:

  • Are an individual
  • Buy and sell securities
  • Hold securities for personal investment over a substantial period
  • Demonstrate activity, which is intermittent and infrequent
  • Report gains and losses on Form 8949 and Schedule D of Form 1040
  • Are subject to the limits on claiming capital losses and wash sale rules
  • Can't use mark-to-market (MTM) accounting, also known as Section 475(f) election

Commissions and costs of acquiring/disposing securities can be considered in gain/loss calculations, but other expenses related to investing are usually not deductible for investors.

To qualify as a trader, you:

  • Trade substantially, regularly, frequently, and continuously 
  • Seek to profit from short-term security price swings
  • Buy and sell securities in a way that qualifies as a business
  • Can use MTM accounting, also known as Section 475(f) election

The IRS considers the following in determining whether your activity is a securities trading business:

  • Typical holding periods for securities bought and sold
  • The frequency and dollar amount of your trades during the year
  • The extent to which you pursue the activity to produce income for a livelihood
  • The amount of time you devote to the activity

Traders must keep detailed records to separate securities held for investment and securities in the trading business. Traders must identify securities held for investment on the day they're acquired, like holding them in a separate brokerage account.

If you don’t use MTM accounting, then you report gains and losses on Form 8949 and Schedule D of Form 1040, and are subject to the limits on claiming capital losses and wash sale rules.

You can make the MTM election by attaching a statement to your income tax return (if filed without an extension) or your tax return extension request. The election can't be e-filed.

The statement should include the following:

  • A statement that you're making an election under section 475(f)(1) or (f)(2) of the Internal Revenue Code
  • The first tax year for which the election is effective (that is, the tax year for which a timely election is being made)
  • The trade or business for which you're making the election

After making the election, it's in effect for the year you select and all later tax years unless you are granted permission from the IRS to revoke it. 

You must also change your method of accounting for securities under Revenue Procedure 2019-43 PDF, Section 24.01. You're also required to file a Form 3115, Application for Change in Accounting Method. See Publication 550 for more info.

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