Individual retirement accounts (IRAs) offer varying investment opportunities, one of which is futures trading. Futures are financial contracts that allow investors to speculate on the future price of an asset. They are high-risk investments, meaning investors can potentially gain or lose substantial amounts of money. It’s, therefore, advisable to learn how they work and consult a professional before deciding. 

This article explores using futures in IRA accounts, including the limitations, prohibitions and risks. You’ll also learn key considerations when investing in futures. 

What Are Futures?

Futures are a form of a derivative. Derivatives are financial contracts based on underlying assets like agricultural commodities, foreign currency and precious metals. The prices of these assets fluctuate depending on their value. Future traders make money by betting that the price will go up or down and trading the right to buy or sell at a given price. 

For example, if the trader predicts in June that gold prices will rise by the end of the year, they can buy a December futures contract. If the prices rise as expected, the trader makes a profit. On the other hand, if the prediction is wrong and the price drops, the trader can lose money. 

The tricky part is that the price is preset, and parties must transact regardless of the market price at the expiration. This arrangement protects the buyer and seller against arbitrary price alterations. However, it also places them at risk since the economic circumstances can change.

Futures traders can open their own accounts or trade through a third party, like brokers. You can also trade futures through a community pool similar to a mutual fund. The best option depends on your level of experience and knowledge in futures trading.

You can trade futures in IRAs, although it’s not recommended. Nevertheless, if you’re still interested, it’s best to talk to your tax consultant or other qualified professional.

Can You Trade Futures in an IRA or 401(k)?

Some companies offer futures trading in IRAs, 401(k)s or other qualified retirement plans since the IRS does not expressly prohibit such transactions. In other words, the IRS does not always have the last say as to what is allowed or forbidden in a particular retirement account. The 401(k) and other plan sponsors may restrict trading in individual accounts as much as they like.

Most plan sponsors offer a limited selection of investment options or restrict the types of investments to reduce their liability. For example, the company may offer a self-directed IRA, which allows futures trading but limits the products you can invest in. It’s essential to confirm these details when choosing a broker.

What Are the Tax Implications of IRAs and 401(k)s?

IRAs, 401(k)s, and other qualified retirement plans are tax-protected, meaning the earnings in the account are not taxed immediately like in a regular investment account. Since futures trading relies on a high volume of trades to produce a profit, trading in an IRA or 401(k) allows you to defer your tax obligation and pay it over a longer period in retirement. 

If the account is a Roth IRA, you may not pay tax at all. While this feature benefits those who do well with futures trading, there is a downside. You cannot write off losses in retirement accounts. You must have a good year before you can deduct those losses from your taxable income to reduce the amount of tax you owe.

What Are the Rules on Margin Accounts and Prohibited Transactions?

In most cases, you must make a large number of futures trades very quickly 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 delivered. Rapid trading may result in selling assets not physically in your account. This phenomenon is commonly referred to as short selling. Also, your broker will require you to keep a certain value of assets in your account to cover all open trades. This is called a margin. 

The IRS does not expressly prohibit margin accounts for IRAs. However, they have come under scrutiny in the last several years. The reason is that margin accounts use IRA assets as collateral for a loan — an activity prohibited under IRA rules. Rapid traders should be 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.

The Benefits of Trading Futures in Self-Directed IRAs

While risky, futures trading in self-directed IRAs offers some benefits, including the following:

• Tax advantage: Futures trading in self-directed IRAs can offer tax-deferred or tax-free growth. Gains are excluded from immediate taxes, allowing the investment to grow faster.
• Diversification: Futures trading lets you diversify your retirement portfolio. Spreading investments across different asset classes can reduce risks.
• Control: Futures trading in self-directed IRAs offer more control over your investment decisions than other IRAs. You can choose a desired derivative to trade and when to enter or exit positions.
• Leverage: Futures trading allows you to leverage your investment, which can amplify your gains. There are downsides, but there is also the potential to make higher returns than traditional investments.

The Risks of Trading Futures in IRAs

There are many risks when trading futures in IRAs. Here are a few examples:

• Volatility: It’s challenging to predict markets with certainty as numerous factors affect price fluctuations. Sudden, unexpected price movements can result in significant losses.
• Leverage: Futures provide leverage since they require traders to deposit only a fraction of the contract value as margins. This can amplify gains but also magnify losses.
• Liquidity: Futures with scarcely traded commodities or longer expiration dates can have less liquidity. Unlike mainstream investments, entering and exiting these options can be challenging.
• Regulatory: Changes in regulations governing futures trading in IRAs can impact investments. Traders must stay updated with legal developments to avoid adverse implications.

Top Considerations Before Trading Futures in an IRA

Before trading futures in an IRA, it’s vital to consider the following factors:

• Risk management: Considering the numerous risks involved in IRA futures investments, it’s best to employ robust risk-mitigating strategies.
• Complexity: Futures trading is complex and risky. It’s crucial to understand contract specifications, market dynamics and economic indicators that influence prices.
• Brokerage restrictions: IRA custodians may have specific rules regarding futures trading. Always make the necessary inquiries to make informed decisions.
• Margin requirements: The future IRA rules regarding margins are technical and strict. Traders must follow the laws closely to avoid sanctions.

FAQs

Let’s answer some commonly asked questions about futures trading in IRAs:

Can You Trade Futures in a Roth IRA?

Yes, you can trade futures in a Roth IRA. However, different brokers offer varying investment options, so you must find out before signing the contract.

Are Futures a Good Way to Save for Retirement?

Futures trading is a high-risk investment and can result in significant losses. It might be wiser to choose a self-directed IRA with safer investment options.

Learn More About Trading Futures in IRAs

Accuplan Benefits Services offers self-directed IRAs that support futures. You can open an account by following simple steps and with the help of a top professional. We provide a supportive environment that encourages growth. You can contact us now to learn about the alternatives to futures trading.

This material has been prepared for informational and educational purposes only. It is not intended to provide, and should not be relied upon for, accounting, legal, tax or investment advice. Please consult with a professional specializing in these areas regarding the applicability of this information to your situation.