Frequent traders and day traders would howl if they could not sell and re-buy stocks on the same day in their individual retirement accounts. Frequent traders enter and exit positions quickly, making perhaps dozens of trades per day. Making those trades from an IRA brokerage account not only postpones or eliminates taxes on profits; it also abolishes the need for tons of tax reporting. You can buy, sell and re-buy stocks in your IRA as frequently as you like.
Individual Retirement Accounts
A traditional IRA lets you deduct your contributions and defers taxes on all your IRA money, including earnings, until you withdraw it. A Roth IRA offers no tax deductions, but if you follow the rules, all withdrawals are tax-free. In either case, the IRS doesnt get a chance to deplete the trading capital in your IRA by taxing it -- this leaves you more money to invest. Almost all brokers and mutual funds offer IRAs. You can choose to open a self-directed IRA if you want the most flexibility in selecting your investments.
Normally, you report all your capital gains, dividends and interest income on the proper IRS forms when you file your taxes. If you trade often, paperwork can be very tedious, but you avoid it completely by trading within your IRA. The IRS taxes all your withdrawals from a traditional IRA as ordinary income at your marginal tax rate. It knows nothing of how you earned your IRA money.
Wash Sale Rule
The wash sale rule disallows capital losses if you repurchase the same security within 30 days of selling it. That is bad for unsheltered investments, but of no consequence to traders who do all of their buying and selling in an IRA, since you dont claim capital losses in an IRA. However, you cannot skirt the wash sale rule by selling a stock in your regular account for a loss and buying it back within 30 days in your IRA account. The IRS calls this a wash sale and will disallow your claim of loss in your regular account.
IRA or not, you must observe some basic rules if you sell and buy shares on the same day. In the U.S., it takes three days for stock trades to settle. This means that if you sell shares on Monday, you will not receive the proceeds until Thursday. You can purchase new shares on Tuesday even with no cash in your account, since the Tuesday purchase will settle after the Monday sale. However, if you then sell the Tuesday shares before Thursday, you are a free rider -- you sold shares before paying for them. If they catch you free riding -- and they will -- the Securities and Exchange Commission will instruct your broker to freeze your account for 90 days. You can still trade during the 90 days, but you cannot make purchases using unsettled funds.
Even with a discount broker, rapid trading can rack up the commission costs quickly. In a regular brokerage account, your commissions reduce your trading profits and increase your losses, thereby lowering your taxable income. IRA traders get no such tax benefit -- commissions are just a cost of doing business. If you do frequent buying and selling every day, you might want to keep a close eye on your mounting commission costs, lest they swamp your trading profits.
Eric Bank is a senior business, finance and real estate writer, freelancing since 2002. He has written thousands of articles about business, finance, insurance, real estate, investing, annuities, taxes, credit repair, accounting and student loans. Eric writes articles, blogs and SEO-friendly website content for dozens of clients worldwide, including get.com, badcredit.org and valuepenguin.com. Eric holds two Masters Degrees -- in Business Administration and in Finance. His website is ericbank.com.