Saturday, March 29, 2014

Active-Trader - Tax Act 2013

Welcome back Active Traders and Wealth Builders.

For the past 2 weeks I have been on hiatus from this blog and instead working on my income Tax filing for 2013. All told, I spent between 25 and 30 hours on this effort.  Cutting to the chase, I got my highest tax refund ever due to some educational expenses - and of course due to the fact that my employers withheld more in taxes throughout the year than I owned in the end.  I learned some great stuff in the process as follows:

1) Yes - you can do it yourself

Tax law is a mess of regulations, special cases and if-then scenarios.  Tax Act makes it easy by following an interview style of question and answer.  Doing so is an education in itself.  Did you know you can deduct moving expenses or the costs incurred in looking for a new job?   After the question and answer is done, Tax Act produces the Tax Return documents which you can sanity check against prior years.

2) It costs less

In prior years, I paid an accountant $575 to file my taxes. This year, I paid a total of $254,  almost $76 to Tax Act itself, and $179 for Gainskeeper as discussed in a separate post.  Granted I don't get to deduct the $575 but cost avoidance is better than a deduction any day.

4) You are in control

Through the process of using Tax Act, the program calculates your Federal and State refund (or liability) and displays it in the upper right hand corner.  For every entry, you can determine the impact on the bottom line. Using these features, I was able to deduct some medical expenses from my state returns which I had not considered in prior years.

5) E-filing - No more trip to the post office

Most like you already pay your bills with on-line and get paid via direct deposit to your bank account.  So why pay your taxes though the mail?  Instead e-file and save the postage.  Not only that, within 12 hours of submitting the e-file, I got e-mail confirmation that my returned had been accepted by the Tax authorities.  I never got that peace of mind when filing via snail mail.

6) Faster Refunds

When you e-file, you have the option of receiving your refund via check or direct deposit.  I highly recommend direct deposit so you can get your refund faster.

To summarize, doing taxes yourself with Tax Act is better, faster and cheaper.  It is the tax equivalent of on-line bill pay.  Not only is it better, its better in many ways.  Give it a try yourself and come back later for a summary of what I learned regarding the Tax consequences of all my trading activity.

Get some rest and enjoy your weekend, you earned it.

Sunday, March 9, 2014

Active-Trader - Taxes for Traders

Welcome back Active Traders.

As you know, I am a big fan if the US Federal Reserve.  However I'm not such a fan of another branch of the US Department of the Treasury and that is the Internal Revenue Service.  And that's because every year at this time I struggle to reconcile all my trading and prepare for filing income taxes.

This year is going to be somewhat different because my accountant has retired for health reasons and I have decided to file the taxes myself using an web site service called TaxAct.  I did some research and Tax Act comes pretty highly rated and very reasonably priced and just behind industry leader TurboTax.

So what makes Tax reporting such a hassle for traders?  Its because for most small investors, they have to report each transaction on either the 1099-B or the 8649 form.  In the past, I put all this on a spreadsheet and reported it to my accountant who dealt with it.  Now that I am doing the taxes myself, I learned a few things in the process.

First is that you can import the trade data directly into Tax Act via a CSV file which are commonly used for data import and export from Microsoft Excel.  Tax Act Specifies the columns required in a specific order along with a code indicating how the transaction should be handled:

A - Short Term with basis reported to the IRS
B - Short Term with basis not reported to IRS
C - Short Term not reported to the IRS at all
D - Long Term with basis reported to the IRS
E - Long Term with basis not reported to the IRS
F - Long Term not reported to the IRS

Back in the bad old days, brokers were not required to report the basis (cost) of positions and it was up to the customer to track and report that information.  The IRS is phasing in new rules where the brokers are required to report the cost basis for trades for which they have the information.  For the 2013 tax year, that includes most equities (stocks) but does not include options.  So for most of my stock trades are category A and most of my options trades are category B.  Constructing a CSV file varies by broker as follows.


For E-Trade, this process is pretty simple, go to Accounts, Gains and Losses, select the Tax Year from the pull-down and click Submit.  From the screen which appears, you can download the data directly to CSV and with a minimum of manipulation get it into the required format.  I would give E-Trade a grade of A on this functionality.

TD Ameritrade / Thinkorswim

For TD, this process is pretty easy and the data can easily be accessed from the www.tdameritrade web site.  For a bonus, TD integrates GainsKeeper accounting software into the web site and you download a fully complete and electronic copy of the 8649 form for input into the software.   Unfortunately, Tax Act only allows one 8649 import per reporting code above.  So instead  you have to import the individual transactions.  This is very easy and the data downloaded into TD Ameritrade can be imported directly into Tax Act with no manipulation required.   Overall, I would give TD a grade of A+ in this area.


TradeStation is another story altogether and here's where it gets ugly. Remember this post Welcome to TradeStation when I was excited about opening a TradeStation account?  I was excited to find that a trade which cost me $10 on E-Trade can be done for $1 on TradeStation.   Of course I knew there would be a downside to using TradeStation.   At the time I didn't know what the downside was but assumed I would find out eventually, and find out I did.

For all the things TradeStation does well, they do a lousy job of financial reporting.  For example, E-Trade can tell me the exact percentage I am up or down for the year.  They can tell me  realized gains and losses for the year to the penny and at any time and export it to CSV.  No such luck with TradeStation.

Instead, TradeStation takes almost an arms-length relationship between your trades and their reporting on them.   Here are the specifics of what TradeStation does and does not do:

- They report opening and end-of day balances on a current and historical basis

- They allow detailed downloading of raw trade data in 6-month intervals

- No reporting of Year to Date Profit or Loss

- No download of the 8649 or any attempt to pair opening trades and closing trades

As of this writing, TradeStation missed the statutory deadline to deliver the 1099B data.  They indicate on their web site that per the law they have asked for a 30-day extension and that they are working with their vendor to deliver the data by 3/18/2014.

Now this past part concerns me just a little bit.  TradeStation depends on a vendor to provide this information?  They clearly are a technology-based organization and I am a little concerned that they can't produce this data from their own servers and systems.

Anyway, that data that they provide can be imported into trader's accounting software such as TradeLog (from Green Trader Tax) or GainsKeeper.  GainsKeeper provides this service on a per-year basis based on the number of trades as follows:

- Investor - Maximum of 150 trades - $69
- Trader 1000 - Maximum of 1000 trades - $179
- Trader 3000 - Maximim of 3000 trades - $379
- Trader 5000 - Maximum of 5000 trades - $499
- Trader Elite - Maximum of 20,000 trades - $659

So in my case, the worst case scenario is I have to pay $179 to resolve the trades from TradeStation and convert them into a format which can be imported into TaxAct.

It would probably be a better exercise for me to create the spreadsheet myself each weekend as I progress through the tax year.  This would also provide a good opportunity to review the prior week's trades for lessons learned.

Is there any relief from these onerous requirements to report each transaction to the IRS?

There is an election under section 475f called Trader Mark to Market status.   If your trades meet certain criteria and you make this election early enough in the Tax year, you are allowed to report a single net gain/loss figure for your trading and pay taxes based on that.   Also, once you make this election you are exempt from disallowing losses on Wash Sales.  This election and subsequent judgements by the IRS in terms of whether traders qualify for this election or not are the subject of entire blogs and best followed on Green Trader Tax.

Get those taxes ready and have a great week ahead.

Saturday, March 1, 2014

Active-Trader - Market Maker Move - Part 2

Welcome back, Active Traders and Wealth Builders.

In my prior post Market Maker Move I talked about trading earnings reports using Options.  Since then, I've picked up a few of the finer points of this trade, and used them to good effect this past week.  So let's go through what happened and what was learned from the experience.

First recall that we start this trade by getting the "Market Maker Move" from the Thinkorswim platform.  This appears in the upper right on the Trade tab in yellow next to the text MMM. The MMM is essentially the sum of the premium of the at the money puts and calls and is the amount of the move expected up or down from the closing price.

The gist of this trade it to sell a call spread above the market and a put spread below the market.  In both cases, the short strikes are outside the Market Maker Move.  In the above example of BIDU, I sold short the 182.5 calls and bought the 185 calls as protection and sold short the 162.5 puts and bough the 160 puts as protection.  In the graphic above, the short strikes levels are in red, and the long strike levels are in green.

With this trade, you want the stock to close the week inside the short strikes, so you can keep the entire premium collected on the short strikes and take a complete loss on the long strikes.  In this case, I took in a credit of 1.17 for a max loss of 1.33.  I try to keep the credit greater than about 30% of the spread.  30% of 2.5 is 0.83 so this premium was considered healthy and worth taking the trade.

So what happened in this trade?  BIDU reported good numbers and in the after hours session the stock shot up and traded above my short strike at 185.  So this trade looked like it was going to turn into a max loss.   Surprisingly, when the regular session started on Tuesday, the stock traded at about 175 right in the middle of the range - a gift from the trading gods! The stock closed the week inside the MMM so this position went to max profit.

I had a similar situation with First Solar FLSR where the put side of the trade appeared to go to max loss. Unfortunately, this happened during the regular market hours.  So I pulled the trigger and closed this trade out at just about the fair value of the difference between the strikes, essentially locking in a loss on this trade.  Surprisingly, the stock rallied off the lows and ended the week right smack in the middle of the strikes.  Had I done nothing, the trade would have gone to max profit instead of max loss!

Finally, I tried the same trade with DECK and this one did not go as well. The stock opened down below my short strike and traded most of the day down in that range.  I closed the spread for a debit of 1.60 versus the 0.83 cent credit taken to start the trade.  I could have done better had I waited until later in the day.  And that is one of my lessons learned is to give the trade every change to work out before taking a loss.

Lessons Learned

1)  Do this trade only on big, liquid stocks with lots of volume and good projected Market Maker Moves.

2) Trades later in week are better than those early in the week since you benefit more from Theta Decay.

3) Don't do this trade unless you have options expiring that Friday.  Again Theta Decay is our friend and we won't profit from the collapse in Implied Volatility unless those options are expiring and soon.

4) If the trade goes against you, don't be in a hurry to take a loss.  Things can look very ugly for a time, for example DECK traded as low as 68 on Friday before closing at 74!  But there is tremendous underlying pressure for the stock to close within the MMM because the Market Makers themselves are selling naked straddles on these positions and they only profit if the stock expires inside the MMM.

That's all for now, have a great weekend.