Frequent traders use a combination of research, current events and technical analysis to buy and sell stocks and options. This approach to investing sometimes yields Alpha (over-performance relative to a benchmark), but it always yields more complicated tax filing.
If you buy and sell financial positions, you need to stay organized to avoid an IRS audit. We’ve outlined Seven Habits of Highly Organized Traders. If you trade more than once a month, you should implement these immediately. They might not lead to Alpha, but they will lead to an easier time filing your Tax Habits.
Daily Habits For Frequent Traders
If you trade, here's what you should be doing every time.
Keep A Trade Diary
Frequent traders love to talk about their 10 baggers without remembering all the unsuccessful trades that paved the way. But a trading diary gives you even more color. Each time you place a trade, you should write down the following:
- What did I trade and why?
- Did I follow rules or purchases hedges? What were they?
- Did the trade work?
This habit will make you a better, and more organized trader.
Record Trades In A Spreadsheet Or Software
Every time you buy or sell, you need to record the ticker, that date, your cost basis (when you buy), and your selling price (when you sell). Record reinvested dividends or taxes paid too. You should also include fees associated with buying and selling.
Software like DIY.Fund can make this easier to manage. You could also consider entering information into the Maxit Tax Manager from Ally Invest. Whatever system you use, enter your information every day.
Your brokerage account will issue this same information, but it can be a mountain of paperwork come tax time. If you lose the statements, you will struggle to pay the correct amount in taxes.
Keep Receipts In A Folder
Traders who trade more than 338 times per year and who seek to make profit from market movement may qualify to treat trading as a business. Business owners can write off expenses like computers or cell phones. But you can’t claim expenses that you don’t track. Make a point to stick receipts in a folder, so you can claim appropriate expenses at tax time.
We recommend putting together an Income Tax Binder system to keep all your tax information in one spot.
Weekly Habits For Frequent Traders
We put this one down as weekly, but honestly, it doesn't have to be. Check in once a month on this if you're not getting paid a lot of dividends.
Record Dividends Received
Many investors automatically reinvest dividends that they receive. This potentially drives up your basis in a stock. If you fail to adjust your basis, you will overpay your taxes.
Taking the time to record the dividends you receive also helps you keep track of yield and other important investment metrics.
There is nothing worse (trust me on this), than reinvesting your dividends for years, only to see the company acquired or a portion spun off. Calculating the new basis on what you receive can be a nightmare (and you could over-pay in taxes as a result).
Monthly Habits For Frequent Traders
Your brokerage will issue financial statements to you each month. The statements will include a summary of all trades (including your cost basis and fees).
Review these statements every month. Mistakes happen. Reconciling statements allows to detect problems and fix them right away.
Annual Habits For Frequent Traders
Talk With Your Accountant
Frequent traders should talk with an accountant at least once per year. They will remind you about rules regarding short and long term capital gains. They’ll help you avoid wash sales, and they can help you find the right tools to keep you organized.
Unless you trade full time, you probably will do most of your bookkeeping on your own. However, an accountant can look over your work to be sure you’re keeping track of everything correctly. They can also give you insights into what tax write-offs you might have missed.
Prepare Your Taxes
Most frequent traders will have at least three income statements they need to review. These will include the 1099-INT, the 1099-DIV and the 1099-B.
You’ll get one of these forms from each brokerage firm where you trade. Most frequent traders stick to one (or two) brokerage firms each year. This allows them to work through their tax requirements from a single 1099-B form. If you have multiple 1099-B forms, you will have to work through the tax implications with an accountant.
Be sure to deduct all your current year losses, and any allowable carryover losses before you declare capital gains. Tax time is the one time of year when a bad trade works in your favor.
Even traders who pay someone else to do their taxes should look through their tax documents on their own. This will help you avoid costly errors or fraud.
Stay Organized For Tax Time
Adhering to a system will help you prepare your taxes and make better trades year round. It might be annoying to implement, but it’s imperative for frequent traders. Nobody cares about your money as much as you. Take a little time to organize your trading, and you’ll see the payoff.
If you're a frequent trader what's your favorite way to stay organized for tax time?
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