Investor or Trader

I have another new client who is a day trader and wow is he good at it! Even though he has another job he makes so much more money as a trader that this ultimately is his primary vocation. The following are a few things I've learned in helping this new client with his tax obligations.

1. If you are a day trader who has not elected to mark your portfolio to market accounting method under IRC 475 your expenses are deductible on IRS Form 1040 Schedule C.

2. The most commonly referenced Business Code provided on the Schedule C is 523900, Other financial investment activities (including investment advice) and in my opinion is the most appropriate for a person that meets the definition of day trader regardless of the accounting method chosen.

3. Regarding expenses, lodging and meals while away from home at investment seminars are allowable deductions assuming you actually qualify as a day trader under IRC Sec. 274(h)(7) which denies a Sec. 212(l) deduction for (non-business related) “expenses allocable to a convention, seminar, or similar meeting. However, the Tax Court held that a day trader can deduct the cost of a seminar in securities day trading and related travel expenses under IRC Sec. 162.

4. Basically when business necessity requires that a taxpayer maintain two places of abode, and thereby incur additional and duplicate living expenses, such duplicate expenses are a cost of producing income and should ordinarily be deductible. I believe it continues to be the case that:

a. "[w]hether it is held in a particular decision that a taxpayer's home is his residence or his principal place of business, the ultimate allowance or disallowance of a deduction is a function of the court's assessment of the reason for a taxpayer's maintenance of two homes."

b. 2. "The exigencies of business rather than the personal conveniences and necessities of the traveler must be the motivating factors."

5. The Commissioner and courts have adhered consistently to this policy that living expenses duplicated as a result of business necessity are deductible, whereas those duplicated as a result of personal choice are not.

6. The guiding policy must be that you are reasonably expected to locate your "home," for tax purposes, at your "major post of duty" so as to minimize the amount of business travel away from home that is required; a decision to do otherwise is motivated not by business necessity but by personal considerations, and should not give rise to greater business travel deductions.

7. Business necessity in my opinion requires that living expenses be duplicated only for the time spent engaged in business at the "minor post of duty," whether that is the "primary residence" or not. So if you happen to have a time share in New York City that you only use when going to investment seminars on day trading it could be successfully argued that the time share is indeed necessitated by your day trader activity to minimize lodging costs while attending the seminars and as such a pro rata portion of the cost related to the time spent in the timeshare during the seminars is a reasonably defensible deduction worth stating.  Of course ideally the total annual cost of the time share should be in line with or ideally less than the cost of other similar lodging accommodations such as a hotel.

8. One point of interest is that a schedule C regardless of the business code may be subject to the hobby loss limitations if it reports losses in an 3 of 5 successive tax years so be sure to include a disclosure statement on IRS Form 8275 stating for example..

9. The intent of this disclosure is to circumvent any consideration whatsoever of any present or future "Hobby Loss Limitations" and be classified as an investor. To the contrary, this is a trading business which is done on a continuous daily and regular basis. In addition to proven substantial trading activities for the purposes of capturing daily short term gains for profit, a full time effort is spent with these activities as well as administrative, research and accounting duties associated with running a legitimate business. These activities can be substantiated by brokerage records of trading activity, a trader journal and other documentation demonstrating the hours invested in conducting a profitable business.

John R. Dundon, EA [720-234-1177, John@JohnRDundon.com]. John is a lifelong student of the US Tax Code; enrolled with the United States Treasury Department to practice before the IRS (Enrolled Agent # 00085353); under contract with the IRS as a Certified Individual Taxpayer Identification Number (ITIN) Acceptance Agent; regulated under USC 31 Section 330 & USC 26 Section 7525a.3.A; governed under US Treasury Cir. 230.

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Posted in 1031 Exchange, 1231 Exchange, Business Expense, Business Income, Capital Gain, Capital Loss, Income, Investment Income, Mark to Market, Self Employ, Small Business, Tax Deductible Expenses

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