The rule for stock options is that long positions can exercise but short positions can be assigned. The long position belongs to the option buyer, who has the right but not the obligation, to buy or sell shares of an underlying stock at a set price -- the strike price -- on or before an expiration date. The Internal Revenue Service has special rules for taxing option assignments. The short position belongs to the options writer. She can sell a put or call and collect a premium from the buyer.
Her most profitable outcome is for the option to expire as worthless, because she books the entire premium as a short-term capital gain. She can also choose to offset her short position before expiration by buying an identical option: The two cancel each other and close out her position.
The difference between her original premium and the price of the offsetting purchase is a short-term capital gain or loss. As in all option trades, she subtracts commissions from her proceeds to reduce her profit or increase her loss. When a buyer exercises a call, he purchases shares from a random call seller chosen by the Options Clearing Corporation. The seller receives the assignment notice and must fork over shares of the underlying stock.
She figures her gain or loss by adding the original premium to the strike price and then subtracting her cost of the underlying shares. Her gain or loss is short-term unless she held the underlying shares for more than a year before selling the call, in which case it qualifies for long-term capital gains rates.
A put owner can exercise his option before expiration. If the put writer is assigned, she will have to purchase shares of the underlying stock at the strike price. In this case, she waits to pay tax on the premium she received when she sold the put until she eventually sells the shares assigned to her. At that sale, she adds the original put premium to the share proceeds and subtracts the strike price. The capital gain or loss is long-term if she holds the assigned shares for more than a year before selling them.
For those with less income, the rate is 15 percent for taxpayers in a 25 percent or higher bracket. For everyone else, the long-term gain is tax-free. You can carry over excess capital losses to future tax years.
Investment income includes capital gains unless they are shielded in an individual retirement arrangement. Based in Chicago, Eric Bank has been writing business-related articles since , and science articles since His articles have appeared in "PC Magazine" and on numerous websites. He holds a B.
He also holds an M. The IRS treats income from options as capital gains. Non-Assignment OptionsTaxation The short position belongs to the options writer.
Short Call Assignment When a buyer exercises a call, he purchases shares from a random call seller chosen by the Options Clearing Corporation. Short Put Assignment A put owner can exercise his option before expiration. What Is a Short Option Position? About the Author Based in Chicago, Eric Bank has been writing business-related articles since , and science articles since What Happens at the Expiration of a Vertical Spread? What Is an Expired Option? More Articles You'll Love.
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