The Tax Consequence for Trading Stock

Stock traders pay capital gains tax.

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The liquidity of the stock market makes it easy for you to buy and sell shares. You have the choice of investing over the long term or over a shorter period. A day trader seeks to earn a profit by speculating on daily price movements in the stock market. A day trader pays capital gains taxes on his profitable trades. If he realizes a loss, he can use it as a tax deduction.

Capital Gains Tax

A trader pays capital gains tax when he makes profit on a trade just as a long-term investor does on a stock investment. The length of time you hold on to a stock determines whether you pay short- or long-term capital gains tax. You pay short-term capital gain tax for stock holdings of one year or less. The short-term capital gains tax may be as high as 35 percent. Long-term capital gain tax applies for stock holdings of greater than one year. The long-term capital gains tax rate can be zero percent to 15 percent depending on your income bracket. To figure how much tax to pay, a trader must calculate the difference between what he paid for the shares, called his cost basis, and the price at which he sells the stock. Cost basis also includes brokers' commissions and fees.

Capital Loss

When a trader or investor sells a stock for a loss, it is called a capital loss. A trader can take a maximum $3,000 capital loss deduction each year. If his capital losses are greater than $3,000, he can roll the amount forward to apply the loss in subsequent years until the capital loss is exhausted.

Tax Forms

A brokers supplies a trader with an activity report and, at the end of the year, a Form 1099-B, which details how much he earned. It is important that a trader maintain accurate trading records. If the trading is his only profession, the trader must also submit self-employment taxes to the Internal Revenue Service using Schedule SE, Form 1040. A trader may also have to make estimated income tax payments to avoid owing a huge tax bill. The self-employed file and pay estimated taxes using Form 1040ES.

Filing Taxes

The IRS wants traders and investors to use Schedule D with Form 1040 to report capital gains and losses. Gains or losses from Schedule D are transferred to line 13 of Form 1040. The IRS wants traders to also complete Form 8949, Sales and Dispositions of Capital Assets, which lists a trader's transactions. Essentially, Form 8949 requires that you list and total your short- and long-term gains and losses.