Thursday, November 30, 2006

Capital Gains Taxes on Stock Option Index Trades

Short-term gains from most types of stock and option investing are taxed at the same rate as ordinary income. Long-term gains on stock and option investments held for more than 12 months are considered long-term and taxed at 15% in most cases. If your tax bracket is below 25% then long term gains are taxed only 5%.

The good news is that the gains from the stock index options trades we are trading are taxed differently than gains on individual stock options and stocks. Gains on our stock index spread trades are considered ITC Section 1256 contracts. This means any gains made in these trades are taxed under a 60/40 rule. This rule states that gains are treated as 60% long-term capital gain income and 40% short-term capital gain income (ordinary income) regardless of how long the investment was held. So when we hold a index spread trade for 30 days (our average holding period), 60% of the profit made from that trade is treated as long-term capital gain income and taxed at 15% or 5%. Please do not take this information as tax advise. Do your own research with a tax advisor like H&R Block.

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