Mark-to-Market Accounting: What Small Business Owners Must Know

As a small business owner, understanding different accounting methodologies can significantly impact your tax planning strategy. One such method that deserves attention is mark-to-market accounting. This article explores how MTM applies to traders and when the Section 475(f) election makes sense.

What Is Mark-to-Market?

Mark-to-market accounting requires recognizing gains and losses on open positions as if they were sold at fair market value on the last day of the tax year. For traders who elect MTM under Section 475(f), all positions are treated as sold at year-end, with gains and losses recognized currently.

Benefits of the MTM Election

Ordinary Loss Treatment: Losses become ordinary rather than capital, allowing deduction against all income without the $3,000 capital loss limitation.

No Wash Sale Rules: The wash sale rule doesn't apply to Section 475 traders, allowing tax-loss harvesting without repurchase timing restrictions.

Simplified Record Keeping: Year-end "deemed sale" eliminates the need to track cost basis across years.

Drawbacks and Considerations

Loss of Long-Term Rates: All gains become ordinary income—you lose access to preferential long-term capital gains rates.

Acceleration of Gains: Unrealized gains must be recognized at year-end, potentially accelerating tax liability.

Election Timing: The election must be made by the due date (without extensions) of the tax return for the year before the election year, or within 75 days of starting a new trading business.

Who Should Consider MTM?

Active traders who frequently realize losses, don't hold positions long enough to benefit from long-term rates, want freedom from wash sale tracking, and trade as a business rather than for investment may benefit. Your CPA can model whether MTM makes sense for your situation.