Trading business expenses

By Robert A. Green, CPA
Business traders can deduct all reasonable business expenses, whether they have trading gains or losses, saving around $8,000 per year on average. Investors, on the other hand, are very limited. The business-expense deductions hinge on qualifying for trader tax status, of course.

The good news is you can still claim trader tax status for 2009, and even other open tax years (usually up to three years prior). Unlike Section 475 MTM (mark-to-market accounting), which must be elected on time (generally by April 15, 2009 for 2009), trader tax status can simply be claimed by a taxpayer after the fact, based on facts and circumstances. If you’re first learning about trader tax status, you might still be in luck for tax-year 2009.

Investors vs. business traders
Unlike business traders, investors are stuck with restricted itemized deductions. Investors can’t deduct education, home-office expenses, start-up costs, and many other types of trader expenses.

Investment expenses are only allowed as part of “miscellaneous itemized deductions” in excess of 2 percent of adjusted gross income (AGI), and they aren’t deducted against the alternative minimum tax (AMT). All itemized deductions are subject to a phase-out for upper-income brackets; some taxpayers are better off using the standard deduction than the itemized deduction. Bottom line: Many investment expenses wind up on the cutting room floor.

Investment-interest expenses are limited to investment income (on Form 4952), with the excess carried over to the following tax years. With trader tax status, investment (margin) interest is treated as a business-interest expense, which is fully deductible on Schedule C or the separate entity business tax return. Passive spouses/partners in an LLC filing a partnership tax return are required to use investment-interest expense treatment, but the active spouse/partner is entitled to business-interest treatment. In that case, if margin interest is material, you may want to give your spouse 1 to 10 percent interest rather than 50 percent interest to avoid investment-interest expense treatment.

Let’s presume you easily qualify for trader tax status, either individually or in an entity. Which business expenses are deductible, and which ones are not? 

Business expenses

Business deductions include:
• Section 179 (100 percent) and/or regular depreciation on computers, equipment, furniture, and fixtures.
• Amortization on start-up costs (Section 195), organization costs, and software.
• Education, Internet and cable, books and publications, market data, online and professional services, chat rooms, mentors, coaches, gifts, supplies, telephone, travel and entertainment, seminars, conferences, assistants, consultants, and more.
• Home-office expenses.

Business deductions don’t include:
•  Cars. Vehicles aren’t usually deductible for at-home traders, because traders don’t need a car to visit clients or companies.
•  Commissions. These are part of trading gains and losses; they aren’t a business expense. If you exceed the net capital loss limitation of $3,000 per year, some of your commissions are deferred as part of your capital-loss carryover.


For the complete article, see the April 2010 issue of Active Trader magazine. Click here to subscribe.



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