Although the number and variety of trading instruments is growing and changing daily, the IRS continues to simplify the handling of these instruments for tax purposes, categorizing them into two groups: securities and commodities. Each are reported and taxed differently.
| Securities (Capital Assets) | Commodities (IRC Sec 1256 Contracts) ¹ | |
| Equities | X | |
| Mutual Funds | X | |
| Bonds | X | |
| REITs | X | |
| Equity Options | X | |
| Futures and Commodities | X | |
| Non-Equity Options ² | X | |
| Exchange Traded Funds ³ | X | |
| Single Stock Futures | X | |
| Stock Indexes (9 or less securities) | X | |
| Stock Indexes (10 or more securities) | X | |
| Foreign Currencies – Spot 4 | X | |
| Foreign Currencies – Futures 5 | X |
1 A Section 1256 contract is subject to the marked-to-market method whereby 60% of a trader’s capital gain or loss will be treated as a long-term capital gain or loss, and 40% will be treated as a short-term capital gain or loss. This is the method used regardless of how long the contract is held.
2 Non-Equity Options are any listed options that are not equity options. Non-Equity options include commodity futures options, currency options, broad-based stock index options such as S&P 500, Dow and Nasdaq 100 futures contracts, and debt options.
3 Exchange Traded Funds (ETFs) are securities that track an index, or commodity or basket of assets like an index fund but trades like a stock on an exchange. The most commonly known ETFs are SPDRS, DIA, QQQ, iShares, and ProShares.
4 Foreign currencies traded through the foreign exchange interbank are considered cash Forex or spot market, and involves trading currency pairs. These types of transactions are governed for tax purposes by IRC Sec. 988, which stipulates that ordinary gain or loss treatment will be used. However, traders and investors who view their currency holdings as “capital assets” have the ability to file an internal election to “opt out” of Sec 988 and elect more favorable IRC Sec. 1256 capital gain treatment. This “capital gains election” allows traders and investors to split their capital gains between 60% long-term and 40% short-term regardless of the holding period.
5 Currency futures or forward contracts that are traded on a regulated exchange such as the Chicago Mercantile Exchange, or the Dollar Index traded on the New York Mercantile Exchange have the same treatment as other commodities and futures using the 60% / 40% capital gains split under IRC Sec. 1256.