What Is Form 6781: Gains and Losses From Section 1256 Contracts and Straddles?

Form 6781: Gains and Losses From Section 1256 Contracts and Straddles is a tax form distributed by the Internal Revenue Service (IRS) and used to report gains and losses from straddles or financial contracts. For reported investments, 40% of the gain or loss is reported as short-term, and the remaining 60% reported as long-term.

Who Can File Form 6781: Gains and Losses From Section 1256 Contracts and Straddles

Form 6781: Gains and Losses From Section 1256 Contracts and Straddles has separate sections for straddles and Section 1256 contracts, so investors have to identify the specific type of investment used. Individual tax filers must report gains and losses for contracts according to mark-to-market rules.

A straddle is a strategy that involves holding contracts that offset the risk of loss from each other. For example, if a trader buys both a call option and a put option for the same investment security at the same time, she has formed a straddle.

Section 1256 contracts include regulated futures contracts, foreign currency contracts, options, dealer equity options, or dealer securities futures contracts. These investments are considered "sold" at year end (even if the positions are not actually closed) for tax purposes and are assigned their fair market value in order to determine gains and losses.

Investors report gains and losses for straddles and Section 1256 contract investments by using Form 6781, but hedging transactions are treated differently. Since Section 1256 contracts are considered to be sold every year, the holding period of the underlying asset does not determine whether or not the gain or loss is short-term or long-term, rather all gains and losses on these contracts are considered to be 60% long-term and 40% short-term. In other words, Section 1256 contracts allow an investor or trader to take 60% of the profit at the more favorable long-term tax rate even if the contract was only held for a year or less.

Form 6781: Gains and Losses From Section 1256 Contracts and Straddles requires that investors trading foreign securities contracts in foreign exchanges report gains or losses from that contract on Form 6781, even if those contracts would generally not be treated as a Section 1256 contract.

Real World Example

For example, assume a trader bought a regulated futures contract on May 5, 2017, for $25,000. At the end of the tax year, he still has the contract in his portfolio valued at $29,000. His mark-to-market profit is $4,000, and he reports this on Form 6781, treated as 60% long-term and 40% short-term capital gain. On January 30, 2018, he sells his long position for $28,000. Since he has already recognized a $4,000 gain on his 2017 tax return, he will record a $1,000 loss (calculated as $28,000 minus $29,000) on his 2018 tax return, treated as 60% long-term and 40% short-term capital loss.

How to File Form 6781: Gains and Losses From Section 1256 Contracts and Straddles?

Part I of Form 6781 requires Section 1256 investment gains and losses be reported at either the actual price the investments were sold for or the mark-to-market price established on December 31. Part II of the form requires the losses on the trader’s straddles be reported in Section A and gains reported in Section B. Part III is provided for any unrecognized gains on positions held at the end of the tax year, but only has to be completed if a loss is recognized on a position.

Download Form 6781: Gains and Losses From Section 1256 Contracts and Straddles

Here is a link to a downloadable Form 6781: Gains and Losses From Section 1256 Contracts and Straddles.

Key Takeaways

  • Form 6781 is a tax form distributed by the Internal Revenue Service and used to report gains and losses from straddles or financial contracts.
  • Form 6781 has separate sections for straddles and Section 1256 contracts.
  • Section 1256 contracts include regulated futures contracts, foreign currency contracts, options, dealer equity options, or dealer securities futures contracts.