Futures trading involves buying and selling contracts for agricultural commodities, foreign currency, metals and other items whose price fluctuates from day to day. Futures traders make money by betting that prices will go up or down and trading the right to buy or sell at a given price. While futures trading is not expressly prohibited in retirement accounts, there are a number of things to consider before executing trades.
The IRS does not expressly prohibit futures trading in IRAs, 401ks or other qualified retirement plans. The IRS, however, does not always have the last word as to what is or is not allowed in a particular retirement account. 401k and other plan sponsors may restrict trading in individual accounts as much as they like, and most offer a limited selection of investment options. In the same manner, many companies who offer IRA accounts place restrictions on types of investments to reduce their liability. If you want to trade futures in your IRA or 401k, the key term is “self-directed.” Self-directed accounts allow you to take complete control of your investment choices and typically allow futures and futures options trading.
Margin Accounts and Prohibited Transactions
In most cases, you must make a large number of futures trades very quickly in order to generate a profit. As with stocks and bonds, there is a three-day lag between the trade execution and the time the futures contract and money are actually delivered. Rapid trading may result in selling assets that are not physically in your account, commonly referred to as short selling. Your broker will require that you keep a certain value of assets available in your account to cover all open trades, also known as a margin. Margin accounts are not expressly prohibited by the IRS for IRAs, but have come under scrutiny in the last several years because they essentially use IRA assets as collateral for a loan — an activity that is prohibited under IRA rules. Rapid traders should be extremely careful to choose a reputable broker and follow all account rules to avoid losing the tax-protected status of their IRA accounts and incurring IRS penalties.
IRAs, 401ks and other qualified retirement plans are tax-protected, meaning that earnings in the account are not taxed immediately as they would be in a regular investment account. Since futures trading relies on a high volume of trades to produce a profit, trading in an IRA or 401k allows you to defer your tax obligation and pay it over a longer period of time in retirement. If the account is a Roth IRA, you may not pay tax at all. While this is a great benefit to those who do well with futures trading, there is a downside: you cannot write off losses in retirement accounts. This means that if you have a bad year you cannot deduct those losses from your taxable income and reduce the amount of tax you owe.