Taxes on Day Trading – What You Need to Know

One of the only certainties in life is having to pay taxes. The taxation system helps to pay for vital public services such as street lighting, defence forces and the likes. While it is never nice having to write a large cheque to the taxman, it is something that is unavoidable if you are following the law. Day trading is an area in which a lot of traders can be somewhat confused about how taxation laws apply when they are only getting started.

  • How do day traders pay taxes
  • Common terminology
  • Different jurisdictions
  • Useful tips
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What is the deal with taxes on day trading?

There are also some established day traders who are not following tax laws to the letter of the law and others who may actually be paying more tax than they need to because they are not aware of certain rules. Taxes on day trading are not very straightforward, which is unfortunate to those who regularly day trade. There are many different obligations and rules that need to be considered at the end of the tax year. You are never going to be able to day trade tax free. Your tax bill at the end of the year will depend on a number of different factors, such as the amount of trades you make and what sort of tax system you are obligated to pay your taxes to different jurisdictions have different rules.

Generally, in the United Kingdom the likes of spread betting, forex trading are seen to be speculative investments because there is no underlying asset that the trade owns. This means that they are not under any capital gains tax obligations, so all income derived from this type of speculation is tax free. If a trader declares that they trade full-time for a living then they will probably have some cause to pay certain income tax, but mostly the profits from these types of trading are not taxable.

 

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Common terminology of taxes on day trading world

The area of taxation is certainly not the most interesting and the tax code will have a lot of confusing words and terminology that you will not be overly familiar with. This is why it is important that you arm yourself with all of the common terminology that you will need when dealing with you day trading taxes.

Earned income: This is the income you earn as a result of your job. Under certain tax systems, earnings from day trading are not considered as earned income despite it being your full-time work. Of course this means you won’t have to pay self-employment tax but it also means that you will not be adding into the social security pool if you are based in the US.

Therefore, in certain nations will not be able to take advantage of extensive retirement benefits. Investment income: this is all of the income that you earn from any investment properties before deductions have been made. There are also the likes of royalties, dividends, annuities and interest that are included in this category. Net capital gains are not required under this category. When not including net capital gains, most day traders are not going to have a significant amount of investment income when it comes to day trading.

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Cost Basis

  • This is the price you paid for a security when you initially bought it, adding any commission to this price. This is the starting figure on your gain or loss calculations. If the value of this position exceeds the cost basis when you close out the position, this means it is seen as a capital gain. If this falls below what the cost basis is, you will be dealing with a capital loss. Capital gains: this is when you have earned a profit as a result of selling or buying a given security. If this position has been held for under one year, you may pay capital gains tax. This is seen as a short term capital gain and you will pay the same level of tax as for normal income tax.
  • Capital losses: this is the losses you have incurred as a result of selling or buying a security. These losses can be deducted from the amount that you have managed to earn during the same period.
  • if you are a day trader in the United States, this rule may apply to you at one stage or another. It means that you are unable to claim a loss when a security has been traded or sold during a wash-sale. This is a sale that occurs when a person sells or buys a certain security at a loss and in the thirty days after or before this sale buys a security that is “substantially identical.”

How do day trading taxes differ depending on the given financial instrument?

There are different types of day trading tax that need to be considered. Usually they all have to pay the same tax rate, but there are rare occasions when there are exceptions made. The tax system doesn’t really care if it is oil or silver that you are buying and selling, they are only considered mainly with what loss or gains you are making. It is the region in which these trades take place that are the key issue. Certain investment types will be seen as to be more speculative by the authorities, such as binary options. This could lead to a difference in the tax position of an individual because this type of speculation is normally tax free in the United Kingdom for example.

As mentioned, the tax system will change depending on what region you are in. This includes the tax rate on day trading. There are different loopholes and laws that you will need to consider. This is why you need to take things on a case by case basis. Here is an example of some of the more common regions and how they treat day trading taxes.

Taxes in United Kingdom

Day traders have to pay self-employment tax in certain circumstances and they do not in others. There are three key categories in the UK when dealing with the taxation of trading profits. The parameters for these different categories do change sometimes so you need to constantly check for new changes when it comes to tax time. You will be seen as one of the following by the taxation authorities in the UK:

Speculative: This is more or less comparable to activities similar to gambling. This is pretty much a tax-free haven if you fall under this category. You will not have to pay any income tax, capital gains tax or business tax. The likes of binary options and spread betting will be seen as speculative in this case. While there is no tax payable in this instance, you will also not be able to claim back any losses. Self-employed trading: if you fall under this category, you are going to be taxed in the same manner as if you are a self-employed person, which means you are going to have to pay business taxes. Private investor: all your losses and gains are going to be subjected to capital gains taxes. To find out what category you fall under, it is always worth your while double checking with the HRMC so you don’t make any mistakes. The tax laws in the UK are relatively straightforward and it allows individuals to dabble in the market.

Taxes in the United States

If you are a day trader in the United States, you will either fall under the investor to trader category. The obligations you have will differ significantly depending on which of these applies to you. A trader is classified as someone who spends a lot of time in researching and making trades, at least 16 hours each week. They generally trade whenever the market is currently open and they mainly focus on positions in the short term. You will be classified as being an investor if you are not deemed to be in the business of selling or buying securities. If you do not make trades on a regular basis, as well as having a different full-time job, you will generally be classified in this fashion. A trader is able to minus their expenses from their earnings, whereas the deductions for an investor are generally very restricted. Deductions can be significant, especially over time.

No matter where you are from if you stay on top of your accounting, you will have no issues. Keep good excel sheets with balances clearly laid out. This is the trick to making your taxes as simple as you possibly can.

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What happens if you do not pay taxes while day trading?

Taxes are essential to the way a country operates. While paying your taxes is never enjoyable, it is the law and they help to finance some key activities that you would find it hard to do without. If you do not pay your taxes, you will find yourself in a lot of trouble that can be easily avoided. The penalties for failing to pay your taxes will range from substantial penalties to jail time depending on the severity of the specific case. You need to pay the proper tax rate on day trading.

If you are in the United Kingdom, you will be starting off with a penalty of 5% on the per month amount that you owe, with this rising up to 47.5 % as time goes on. If you continue to fail to pay what you owe, you may then face time in jail. This is why you shouldn’t even consider not doing your taxes. The government has highly specialised and advanced systems that track key financial information and those people who throw up question marks in their system will be closely investigated to ensure that they are not doing anything untoward when it comes to their taxes.

How can you make tax time easier on you?

There are a few different ways in which you can lessen the load by the time tax season comes around. The first thing to do if you haven’t already done so is confirm your current tax status. Simply go to your respective countries tax website and follow the instructions. You may have to send an email or write a letter to confirm your status. You should always keep records of all of your trades. You want to have as much information as possible available to you when it comes to tax time. Key pieces of information to note include the likes of sale date, sales proceeds, purchase cost and the purchase date.

It is always a good idea to use a tax advisor. You should try to get their advice on a regular basis to ensure that you are taking advantage of all possible avenues to reduce your tax bill legally and most importantly meeting your tax obligations. This could lead to a significant amount of money being saved over time. There is a lot of useful software that helps you keep your trading records and tax obligations in order. This is especially handy if you have hundreds and even thousands of trades that you have made throughout the year. They will look after a lot of the boring details for you and take a lot of stress off your shoulders.

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Conclusion:

Taxes on Day Trading tips and tricks

As you can see, paying taxes on your trading profits depends on a number of different factors. You need to take into account what type of day trader you are and in what jurisdiction you are trading in and what type of securities you are purchasing.

By following a few simple steps, you can save yourself a lot of hassle and money come tax time. The last thing you want to do is be scrambling come tax time and making costly errors to your calculations. Doing your accounting as you go throughout the year allows you to stay on top of matters.

If you trade a lot it Is worth paying a visit to a local accountant in order to understand your tax liabilities and any steps you need to take in order to keep on top of this. They may also help you by sending you an excel sheet to help you on top of your monthly profit and loss.

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