Obama is looking to close tax loopholes as one way to counter rising debt and reduce the deficit, and he’s previously mentioned hedge fund managers in his tirades against tax breaks for the rich, as well as oil companies and corporate jet owners.
But one group he hasn’t honed in on, who might be enjoying one of the best tax loopholes of all, according to Andrew Ross Sorkin at Dealbook, are day traders dealing in futures contracts, who only pay about 23% on their profits.
Meanwhile investors who make long-term bets, are taxed at a much higher level. Hedge fund managers usually fit into the latter category.
For years, futures contracts… have received a more favourable tax treatment than stocks. A trader who buys and sells an oil contract in less than a year — even in a matter of minutes — pays no more than a 23 per cent tax on the profits.
Compare that with the bill for flipping shares of Google, General Electric or even a diversified mutual fund in the same time period. Those short-term investment gains are treated like ordinary income, meaning the rate can run as high as 35 per cent.
As Sorkin explains, the tax break on futures dates back to 1981, and was essentially a carrot handed to financiers who were lobbying against the closing of another tax avoidance method — the “straddle transaction.”
The straddle “allowed investors to roll over their profits into the next year. So a rule was written that forced traders to mark their positions to market and pay taxes on unrealized gains.”
Of course traders didn’t like this new rule, so lawmakers included a tax break to mollify them, in which future contracts were “taxed on a 60/40 basis, where 60 per cent of the gains are taxed as long-term gains and 40 per cent of the gains are taxed as short-term gains.”
An economist at the Tax Policy centre told Sorkin that the tax break may “have made sense a generation ago when the market was mainly investors protecting their long-term profits. But with speculators betting on short-term price movements, the loophole is just that — a loophole.”