If you buy and sell securities for your own account you could be considered either an investor or a trader for U.S. federal income tax purposes.  The way you report your gains and losses, and the tax consequences of your transactions are different depending on whether you are considered an investor or a trader.

Investor

If you are considered an investor, you would report your short and long-term capital gains and losses on sales of securities on Schedule D, Capital Gains and Losses.  You can deduct investment-related expenses as miscellaneous itemized deductions on Schedule A, subject to the 2% of adjusted gross income limit.  If you have investment interest expense you can also take an itemized deduction, by completing Schedule 4952, Investment Interest Expense Deduction.

Trader

If you are considered a trader, you would also report your gains and losses on Schedule D, unless you make what is called a “mark-to-market” election, in which you would report your gains and losses as ordinary gains and losses on Schedule 4797, Sales of Business Property.  You can deduct your investment expenses as business expenses as Schedule C, Profit or Loss from Business, not subject to any limitation.

Who Is A Trader?

You are a trader in securities if you are engaged in the business of buying and selling securities for your own account.  To be considered engaged in business as a trader in securities, you must seek to profit from daily market movements in the prices of securities, rather than from dividends, interest, or capital appreciation.; your activity in the trading of securities must be substantial, and you must trade with continuity and regularity.

Some of the factors to be taken into consideration in determining whether you are in business as a securities trader include the amount of time you typically hold the securities, the frequency and dollar amounts of your securities transactions, the extent to which you depend on your securities activity for a livelihood, and the amount of time you spend on your securities trading activity.

If, based on the above criteria, your activity does not meet the definition of a business, you are considered an investor, and not a trader.

Mark-To-Market Election

If you are a securities trader, you can make a “mark-to-market” election under section 475(f) of the tax code.  Under this election, a trader reports all gains and losses from securities held in connection with a trading business as ordinary income (or loss), including securities held at the end of the year.  Securities held at the end of the year are "marked-to-market" by treating them as if they were sold (and reacquired) at fair market value on the last business day of the year.

Generally, a securities trader has to make this election by the due date of the tax return for the year before the year in which the election becomes effective.  In the year the election becomes effective, a trader reports all gains and losses from securities held in connection with the trading business, including securities held at the end of the year, in Part II of Form 4797.

If as a trader, you also hold securities for investment, you must identify those securities as investment securities in your records on the day they are acquired (for example, by holding the securities in a separate brokerage account).  Securities held for investment are not marked-to-market.

Not Subject to Self-Employment Tax

Even though a trader is considered to be in the business of trading securities, gains or losses from the sale or disposal of securities are not taken into account when figuring net earnings from self-employment on Schedule SE.  This is true regardless of whether a trader reports his or her gains and losses on Schedules D or Form 4797.

Investment Interest and Expenses