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Taxes & Forex

  • #1
  • First Post: Jun 26, 2010 1:40am Jun 26, 2010 1:40am
Hello, I have a couple tax related questions that I was hoping to get a bit of a better handle on. Thank you for your time.

 

  1. If I invest money into a trading account and then lose that money (trading); then re-fund the account, or fund a new account and eventually trade back all the money that was lost; will I need to pay taxes on the money that was traded back to cover the initial investment?
  2. Is there a time limit that the initial money invested needs to be paid back to avoid falling into taxable income?
  3. Are all Forex profits taxed equally (as a flat capital gains-type tax) paying a certain percentage of the net income? If I make $10,000 profit in one year, will I pay the same percentage of tax on that $10,000 as I would on $100,000, or $1,000,000 in a year? (I've heard different answers to this question.)

Again, thank you for your time and input, I appreciate it.

Best Regards,
NeoRio

Sentiment: Short on cash. Long on hope.
  • #2
  • Jun 26, 2010 1:51am Jun 26, 2010 1:51am
depends what part of the world your from knowing that would make it easier for ppl to help you.

regards damien
i pull the trigger when others are fearful---me
  • #3
  • Jun 26, 2010 1:52am Jun 26, 2010 1:52am
Quoting damosdmf
depends what part of the world your from knowing that would make it easier for ppl to help you.

regards damien
Oh yes, forgot to mention...the U.S.
Sentiment: Short on cash. Long on hope.
  • #4
  • Jun 28, 2010 6:17am Jun 28, 2010 6:17am
Neo,

Taking your 3 questions in order:

1. Not if you manage to recover within the same calendar year. Your forex gains and losses are combined / netted out for your entire tax year, which by default for US taxpayers is the calendar year. Also, keep in mind that any deposits and withdrawals during the year are netted out and so have no effect on your forex taxable income (gain or loss).

2. Yes, the time limit is your tax year = calendar year.

3. No. Although it's true that there are two different options for reporting forex gains or losses, the answer to that question is never "Yes." Wouldn't that be nice...

Your effective forex tax rate (let's call it EFTR) is always going to be a function of your marginal federal income tax rate, whether you:

1) elect IRC 1256(g) (Internal Revenue Code Section 1256(g)) for a favorable 60/40 tax treatment;

or

2) do nothing and stay with the default IRC 988 for an ordinary gain / loss tax treatment.

So, under IRC 988, your EFTR can range from 10% to 35%, the same as your marginal tax rate in 2010.

Under IRC 1256(g), your EFTR can range from 4% to 23% in 2010:

0% x .6 + 10% x .4 = 4%;

15% x .6 + 35% x .4 = 23%.

The rates will get steeper by ~5% in 2011 (lucky us, huh): from 15% to 39.6% marginal tax rate and from 10% to 20% (instead of 0% to 15%) long-term cap gains rate. So, the EFTR under Section 1256(g) will top out at 27.84%, if I did my math correctly. Anyone who's reached that level, I'd say, hey, really nice problem to have.

Don't forget state income taxes, too (unless you are fortunate to file in one of a handful of tax-free states), further increasing your EFTR.

For more, um, fun-filled details, take a look at this forex tax primer and watch the short video and the long webinar:

http://www.greencompany.com/Educatio...Currency.shtml

Anything else, just ask.
  • #5
  • Jun 28, 2010 8:47am Jun 28, 2010 8:47am
Oww... I just knew that we ought to still pay the taxes.

At first, I thought that it's automatically deduced by broker.
  • #6
  • Jun 28, 2010 8:47am Jun 28, 2010 8:47am
Does anyone know about setting up an IRA for trading purposes? Thanks.
  • #7
  • Jul 9, 2010 9:04am Jul 9, 2010 9:04am
Guys,
Once you start raking in big bucks another alternative to paying taxes would be to move to another place where no taxes are levied on trading income.

Cheers
Novice 198
  • #8
  • Jul 9, 2010 9:41am Jul 9, 2010 9:41am
Quoting novice198
Guys,
Once you start raking in big bucks another alternative to paying taxes would be to move to another place where no taxes are levied on trading income.

Cheers
Novice 198
Suggestions?
If you're not the lead dog, the view never changes ...
  • #9
  • Jul 10, 2010 7:56am Jul 10, 2010 7:56am
Quoting ds1
Suggestions?
To start with Singapore. No tax is levied on Trading.
Cheers
N
  • #10
  • Jul 10, 2010 10:16am Jul 10, 2010 10:16am
Quoting reddiscalper
Does anyone know about setting up an IRA for trading purposes? Thanks.
Yes, you can trade from an IRA, but only on the long side. Not sure how this affects Forex, since technically, everything is long - either buying Dollars vs. Euros, or buying Euros vs. Dollars.

Your broker's website should have basic info on opening or linking an IRA account.

Rob
  • #11
  • Oct 27, 2010 4:47pm Oct 27, 2010 4:47pm
Quoting nhct
Neo,

Taking your 3 questions in order:

1. Not if you manage to recover within the same calendar year. Your forex gains and losses are combined / netted out for your entire tax year, which by default for US taxpayers is the calendar year. Also, keep in mind that any deposits and withdrawals during the year are netted out and so have no effect on your forex taxable income (gain or loss).

2. Yes, the time limit is your tax year = calendar year.
NHCT, first of all I just wanted to thank you for your very good answer to my post from some time ago. I meant to answer it right away but got caught up in other things.

The reason your answer surprised me (the answer being that you have 1 calendar year to report losses) is because my CPA tells me that for business taxes (corporate taxes), you can report losses up to 3 years back. Most business lose money the first year, 2, or 3, before making profits...and they are allowed to report those losses for up to 3 years and deduct those from future earnings. So I thought Forex losses might be handled the same. I guess you are saying that you only have 1 calendar year to make your losses back?--and the 3 year rule does not apply?

Thanks,
NeoRio
Sentiment: Short on cash. Long on hope.
  • #12
  • Oct 27, 2010 6:59pm Oct 27, 2010 6:59pm
Different countries, different trading entities, different laws!

In Australia, my Pty Ltd, non-listed company can carry losses without time limit, and pays 30% FLAT tax from dollar one of profit.

So yes, the tax rate scales with increase in taxable profits.

The Financial year (1st July to 30th June) is used to draw the line for FY gains and losses.

There is no capital gains tax (concessional) treatment on investments held less than one full year, and for Forex trading, well... you know... So it's 30% tax on net profits, and permenant carry forward of accumulated losses.
  • #13
  • Oct 28, 2010 1:39pm Oct 28, 2010 1:39pm
Quoting NeoRio
NHCT, first of all I just wanted to thank you for your very good answer to my post from some time ago....
Well, there is no tax rule that says you have 1 calendar year to report losses from forex trading. It's just difficult to have it any other way for most people, unless they were both incredibly visionary and incredibly humble to expressly plan for such inevitable losses in advance by structuring their first attempts at forex trading as a business from day one. (We all know lots of such brilliant people, right? Right.) So, in replying to your original questions, I made a couple of implicit assumptions... check to see if they apply:

Assumption 1. You trade forex in an individual trading account.

If so, forex gains or losses are not treated like business gains or losses, so your CPA's advice regarding business taxation does not apply.

If, on the other hand, you've incurred those forex trading losses in a corporate account that you'd set up under a business entity dedicated to trading (not incidental to the primary nature of the business), that's a whole other game, with its own extensive set of rules that I don't claim particular expertise in (although see #2 below for some basic insights.) Personally, I do trade forex in a dedicated LLC nowadays. However, being an LLC, it's a pass-through tax entity, so that income is conveniently reported on federal Form 1040 and schedules, plus similar individual state forms.

Assumption 2. You have enough offsetting non-forex taxable income to deduct your forex losses in full, in the same year they occurred.

That positive income may come from anywhere -- your job, your spouse's (if any) job, small business, rental property, other trading or investment taxable income (mutual funds, stocks, options, commodities, futures, incl. currency futures), etc. -- anything but OTC cash forex. If so, once the year is over, there is no remaining forex loss to carry forward to offset future forex gains, which seems to be the essence of your first two questions, if I understand you correctly.

Now, what if that assumption doesn't hold for you -- if your forex loss happens to be large enough that it exceeds all your (and your spouse's) other taxable income combined? Well, if you were set up as a trading business, you'd have a net operating loss (NOL) for the year. A business NOL can be carried back 2 years (it was temporarily increased to a remarkable 5 years in 2008 and 2009, as part of the stimulus package) or carried forward 20 years.

But non-business items -- losses, expenses, deductions -- cannot be used to create an individual NOL. If your taxable income is negative, the good news is -- you owe no federal taxes. The bad news is -- any amount by which your taxable income is less than 0 is lost forever. No carry-back, no carry-forward. What a deal.

So, the bottom line is, under the right conditions, you've got up to 23-26 years to report and offset your business forex trading losses: 2-5 years back + the year of the loss + 20 years forward. In practice, though, for most people -- individual trading account and no NOL (whether forex-driven or any other non-business source) -- your forex gain following a forex loss will be fully taxable, unless they occurred within the same year to allow them to be combined / netted out.
  • #14
  • Oct 29, 2010 1:33am Oct 29, 2010 1:33am
BTW, thank you once again for your very detailed and professional answer. (You said you are a lawyer, right?--had to read your answers a few times to digest them!)

Quoting nhct
Well, there is no tax rule that says you have 1 calendar year to report losses from forex trading. It's just difficult to have it any other way for most people, unless they were both incredibly visionary and incredibly humble to expressly plan for such inevitable losses in advance by structuring their first attempts at forex trading as a business from day one.
So, do you mean that the only way to claim losses older than 1 year are to trade from a business account and not an individual retail account?

Quoting nhct
Assumption 1. You trade forex in an individual trading account.
Yes, I do.

Quoting nhct
If so, forex gains or losses are not treated like business gains or losses, so your CPA's advice regarding business taxation does not apply.
OK, so anything other than a business trading account can only claim 1 year back of losses?

Quoting nhct
Assumption 2. You have enough offsetting non-forex taxable income to deduct your forex losses in full, in the same year they occurred.
So, if I did have enough non-Forex taxable income, are you saying that the Forex losses could be deducted?--more than 1 year back?

Quoting nhct
That positive income may come from anywhere -- your job, your spouse's (if any) job, small business, rental property, other trading or investment taxable income (mutual funds, stocks, options, commodities, futures, incl. currency futures), etc. -- anything but OTC cash forex. If so, once the year is over, there is no remaining forex loss to carry forward to offset future forex gains, which seems to be the essence of your first two questions, if I understand you correctly.
Not sure I understand if you mean that *if* one has income other than Forex, if they can offset Forex losses older than 1 year or not.

Quoting nhct
But non-business items -- losses, expenses, deductions -- cannot be used to create an individual NOL. If your taxable income is negative, the good news is -- you owe no federal taxes. The bad news is -- any amount by which your taxable income is less than 0 is lost forever. No carry-back, no carry-forward. What a deal.
So, if 2 years ago I lost x amount of money in Forex and this year I make x amount of profit...that profit made this year will *have* to be taxed as income and not used to supplement the loss from 2 years ago?

Thank you,
NeoRio
Sentiment: Short on cash. Long on hope.
  • #15
  • Nov 2, 2010 3:15am Nov 2, 2010 3:15am
I set up a trading trust and pay no tax on the account.

Only pay tax when withdrawing money.

This way i can avoid a 30% loss each financial year which seriously eats into the power of compound interest.

I recommend researching trusts coz tax sux
  • #16
  • Nov 2, 2010 3:54am Nov 2, 2010 3:54am
Quoting onemind
I set up a trading trust and pay no tax on the account.

Only pay tax when withdrawing money.

This way i can avoid a 30% loss each financial year which seriously eats into the power of compound interest.

I recommend researching trusts coz tax sux
Interesting. What, if any, are the advantages of doing that instead of trading from an IRA?
"If The Fool persists in his Folly he will become wise." - William Blake
  • #17
  • Edited 4:06am Nov 2, 2010 3:56am | Edited 4:06am
The book "The Tax Guide for Traders" will answer 99% of your US-based tax trading questions. Check the blog for other answers as well: http://www.greencompany.com/blog/index.php

Quoting nhct
Well, there is no tax rule that says you have 1 calendar year to report losses from forex trading....
Check and see if you qualify for "tax trader status." If I remember correctly, if you meet the requirements, you gain the advantages of your trading being treated as a business (all that mess about NOLs and stuff is opened up to you as it normally wouldn't be). It's been a while since I read the book, and I may be confusing benefits of Section 1256 contracts with trader tax status.
Hindsight is 20/20
  • #18
  • Nov 2, 2010 4:09am Nov 2, 2010 4:09am
Thanks cosgrove. I have seen that on Amazon but did not buy because the latest edition was from 2004. Perhaps Green might put out a new edition....or maybe what is not covered in the book is updated on the website.
"If The Fool persists in his Folly he will become wise." - William Blake
  • #19
  • Nov 2, 2010 4:15am Nov 2, 2010 4:15am
Quoting The Fool
Thanks cosgrove. I have seen that on Amazon but did not buy because the latest edition was from 2004. Perhaps Green might put out a new edition....or maybe what is not covered in the book is updated on the website.
Updates are provided on their secure website after purchase. Not sure how that works if you don't buy direct.
  • #20
  • Nov 2, 2010 4:21am Nov 2, 2010 4:21am
Quoting Slack
Updates are provided on their secure website after purchase. Not sure how that works if you don't buy direct.
cool, that's good to know, thanks, Slack. For $37 probably not a bad deal at all & I don't think there's anything else like it out there anyway....
"If The Fool persists in his Folly he will become wise." - William Blake
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