First of all, I must note that Google Answers provides general
information, not professional tax advice. The information below
should not be relied upon or taken as a substitute for professional
tax advice. If you need professional tax advice, you should contact a
qualified CPA or other tax professional.
"Currency traders are treated the same as other commodities traders in
that their trading gains and losses are treated as section 1256
contracts. Business traders and all investors report section 1256
contracts as capital gains and losses on Form 6781 (Gains and Losses
from Section 1256 Contracts and Straddles)."
"Currency traders transact regulated futures contracts on regulated
commodities exchanges (treated as Section 1256 contracts) or in the
non-regulated "interbank" market (a collection of banks giving
third-party prices on foreign current contracts (FCC) and other
By default, FOREX or inter-bank trading is not included in Section
1256; rather it?s subject first to IRC Section 988, which specifies
tax treatment for foreign currencies.
So what?s IRC 988? Simply, it provides that these fluctuations in
exchange rate gains and losses should be treated as ordinary income or
loss and reported as interest income or interest expense. IRC 988
considers exchange rate risk in the normal course of business to be
When a currency trader uses the interbank market to transact in
foreign currency contracts and other forward contracts, he is exposed
to foreign exchange rate fluctuations.... However, the currency trader
looks upon his currency positions as "capital assets" in the normal
course of his trading activity (business or investment). The ?capital
asset? rules apply. What this means is that a currency trader may
elect out of ordinary gain or loss treatment in IRC section 988,
thereby qualifying to use section 1256 contract treatment ? which is
60/40 capital gains and losses. Most currency traders will want to
make this election for the tax-beneficial treatment of section 1256
(lower tax rates on gains).
And, those with large FOREX trading losses may be better to skip IRC
1256 and take an ordinary tax loss. You need to make the election on a
?contemporaneous basis? in your own books and records; which means you
are not supposed to pick and choose the best approach after-the-fact."
" Currency traders have additional unique and esoteric tax rules.
Currency traders are taxed like Commodities traders, except that
interbank currency traders must ?elect out? of IRC section 988 to
benefit from the 60/40 tax treatment. For Currency tax law, you need
to learn about IRC Section 1256 contracts, Form 6781, special Form
6781 loss carry-backs and IRC Section 988 or alternatively, rely on
your qualified tax advisor.
Tax Tip: The Currency investor or trader will usually want to make
the election to enjoy the tax-beneficial treatment of IRC 1256 (60/40
Tax Tips - Forex: Know What You Trade to Avoid Tax Traps
By Jim Forrester, CPA
Here's IRS Form 6781
More information about the Section 988 election:
"SAMPLE TAX ELECTION & VERIFICATION FORM FOR CAPITAL TREATMENT"
"currency trading" tax 1040
currency form 6781
"section 988" election
I hope this helps.