What Does Mark to Market Mean: Accounting, 475(f), and 1256

Mark to market means valuing an asset or liability at what it would fetch in the market right now, rather than at what someone originally paid for it. The recorded value moves as prices move, so gains and losses show up on the books before anything is actually sold. For most people, the term surfaces in three places: the daily repricing that runs inside a brokerage account, the fair value rules public companies follow in their financial statements, and a tax election under Section 475(f) that active traders can use to change how their gains and losses are taxed.

Mark to Market Compared With Historical Cost

Historical cost accounting records an asset at its original purchase price and generally leaves it there. A machine bought for $50,000 sits on the balance sheet at $50,000, declining only through a preset depreciation schedule. The paper trail is clean, but the number can drift far from what the asset is worth today.

Mark to market replaces that static figure with one that moves. When the market price rises, the recorded value goes up right away. When it falls, the loss hits the books immediately, even without a sale. Investors and creditors get a picture of financial health that reflects current conditions instead of the day of purchase.

The trade-off is paper volatility. You recognize unrealized gains and losses before any transaction takes place, so a sharp downturn can make a balance sheet look dramatically worse overnight even if you have no plan to sell. Publicly traded companies and nearly all brokerage accounts use mark to market for liquid securities. Historical cost remains common for illiquid assets like real estate and private business interests.

What Mark to Market Does Inside a Brokerage Account

Every time the market closes, your brokerage recalculates the value of every position you hold. For futures contracts, this is more than a display update. The clearinghouse actually moves cash between accounts based on the day’s price change. If crude oil futures drop $2 per barrel and you hold one contract covering 1,000 barrels, $2,000 leaves your account and goes to whoever is on the other side of the trade. The next day the slate resets and the process repeats.¹

For stock and option accounts using margin, this daily repricing controls whether you can keep your positions open. FINRA requires a minimum maintenance margin of 25 percent of the current market value of securities held long, though most brokerages set their own threshold at 30 or even 40 percent.² When your equity falls below that line, you receive a margin call demanding additional cash or a sale to cover the gap.³

The same calculation controls your buying power. When prices rise, the mark to market adjustment increases your account equity, freeing up room for new trades without a fresh deposit. A decline shrinks your available equity and limits what you can do next. From the brokerage’s side, this is the point of the method: it stops losses from quietly compounding until neither side can absorb them.

Fair Value Reporting for Public Companies

Companies that report assets at fair value follow the framework the Financial Accounting Standards Board set in ASC Topic 820. The standard sorts fair value measurements into three tiers based on how observable the pricing inputs are.

Level 1 covers assets with quoted prices in active markets, such as shares of a publicly traded company. The valuation is straightforward because the price is on an exchange.
Level 2 covers assets with no direct quoted price but observable data behind the valuation, such as interest rates, yield curves, or prices of similar instruments. Many corporate bonds and interest rate swaps fit here.
Level 3 covers assets valued using internal models and assumptions because no market data exists. Private equity stakes and certain structured products land in this category.

The hierarchy tells anyone reading a company’s financials how much to trust the valuations. A balance sheet loaded with Level 1 assets is easy to verify. One dominated by Level 3 holdings deserves more scrutiny, because the numbers depend heavily on management’s own assumptions. Companies with Level 3 assets must disclose the significant unobservable inputs they used and reconcile opening to closing balances, breaking out realized and unrealized gains, losses, purchases, sales, and any transfers into or out of Level 3.

The Section 475(f) Mark to Market Election

For individuals, the tax version of mark to market is where a single decision can move the most money. Section 475(f) of the Internal Revenue Code lets qualifying traders elect mark to market treatment for their trading business. Once the election is in place, every security you hold at year-end is treated as sold for fair market value on December 31, and any resulting gains or losses are ordinary rather than capital.⁴

The distinction between ordinary and capital matters enormously. Without the election, net capital losses that exceed your capital gains can only offset $3,000 of other income per year.⁵ A trader who loses $80,000 in a bad year would need more than 25 years to deduct that loss fully. Under Section 475(f), the same $80,000 is an ordinary loss that can offset wages, interest, business income, or anything else on the return in the same year. If the loss exceeds total income, it can create a net operating loss that carries forward.

Qualifying as a Trader in Securities

The IRS does not hand this election to anyone with a brokerage account. You first have to qualify as a trader in securities, and the bar is higher than most people expect. Three requirements apply: you must seek to profit from daily price movements rather than from dividends or long-term appreciation, your activity must be substantial, and you must trade with continuity and regularity.⁶

There is no published number of trades or dollar threshold that automatically qualifies you. The IRS looks at the full picture: frequency, dollar volume, typical holding periods, time devoted to the activity, and whether trading is a meaningful source of income. Someone making a dozen trades a year around a full-time job is an investor. Someone executing hundreds of trades with short holding periods and spending most of the workday on research and execution is much closer to the line.⁶

Getting this wrong is expensive. If you claim trader status and the IRS disagrees, the election unravels. Ordinary losses revert to capital losses, the $3,000 annual limit applies retroactively, and back taxes plus penalties can follow.

Filing the Election

The deadline catches people off guard. To elect mark to market for the 2026 tax year, you must file a statement by the due date of your 2025 return, not including extensions. For most individuals, that means April 15, 2026. Miss the date and you are locked out for the entire 2026 tax year, with no late-filing exception.⁶

The election statement must describe the election, identify the first tax year it applies to, and specify the trade or business involved.⁷ You attach it either to your timely filed return or to your extension request. Because this is technically a change in accounting method, you also file Form 3115 with the return for the year the election takes effect and send a signed duplicate to the IRS National Office. The automatic change procedure applies, so no user fee is required.⁸ Once the election is in effect, gains and losses go on Part II of Form 4797 as ordinary business gains and losses, not on Schedule D.⁶

Segregating Investment Holdings

The election applies to everything in your trading business. If you also hold long-term investments you do not want marked to market, you must identify those securities as held for investment on the day you acquire them. The IRS recommends keeping them in a separate brokerage account entirely.⁶

Fail to segregate and long-term stock holdings get pulled into the election. Any appreciation is then taxed as ordinary income at your marginal rate instead of qualifying for the lower long-term capital gains rates. For a trader sitting on a large unrealized gain in an index fund bought years earlier, this single mistake can cost more than the election saves.

Wash Sale Rule Exemption

One of the most valuable benefits of a 475(f) election is freedom from the wash sale rule. Normally, if you sell a security at a loss and buy substantially identical shares within 30 days before or after the sale, the loss is disallowed under Section 1091.⁹ Active traders trip this rule constantly because they trade the same stocks repeatedly.

With a valid mark to market election in place, the wash sale rules do not apply to your trading securities.⁶ Every loss is recognized when it happens, no matter what you buy the next day. For traders working a small universe of stocks with many round trips in the same names, this exemption alone can justify the election.

Self-Employment Tax and Net Operating Losses

The election converts trading gains and losses to ordinary income, but those amounts are not subject to self-employment tax. The IRS excludes trading gains and losses from self-employment tax calculations, regardless of whether the mark to market election is in place.⁶

When ordinary losses from the election exceed other income for the year, the excess can create a net operating loss. Under current law, NOLs carry forward indefinitely but can only offset up to 80 percent of taxable income in any given carryforward year.¹⁰ The remaining 20 percent stays taxable, and any unused NOL rolls into the following year. Carrybacks to prior years are generally not permitted for most taxpayers.

Revoking the Election

The election is not permanent, but backing out is harder than getting in. To revoke, you file a revocation statement by the due date of the return for the year before the revocation takes effect, and you also file Form 3115 to change your accounting method back.⁶ Revoke within five years of making the election and the Form 3115 must go through the non-automatic procedure, which requires a user fee and IRS approval. After five years, the automatic procedure applies. Late revocations are generally not allowed.

Section 1256 Contracts and the 60/40 Rule

Section 1256 contracts have their own mandatory mark to market treatment, and it works differently from the 475(f) election. These contracts include regulated futures, foreign currency contracts, nonequity options, dealer equity options, and dealer securities futures contracts. Every position held at year-end is treated as sold at fair market value on the last business day of the year.¹¹

The resulting gains and losses split 60/40: 60 percent long-term capital gain or loss and 40 percent short-term, regardless of holding period.¹¹ A futures trader who opens and closes a position within a single week still gets 60 percent of the profit taxed at the more favorable long-term rate. Reporting goes on Form 6781, not directly on Schedule D. The form handles the split calculation, and the totals flow through to your return.¹²

One distinction matters. Section 1256 treatment is mandatory for qualifying contracts and applies to everyone who trades them. The Section 475(f) election is voluntary and only available to qualifying traders. If you trade both stocks and futures, you could have 475(f) treatment on the stock side and 1256 treatment on the futures side at the same time, each with its own reporting rules and its own form.

1
Encyclopædia Britannica. Mark-to-Market and Variation Margin in Futures Trading
2
FINRA. FINRA Rule 4210 – Margin Requirements
3
FINRA. Know What Triggers a Margin Call
4
Office of the Law Revision Counsel. 26 USC 475 – Mark to Market Accounting Method for Dealers in Securities
5
Office of the Law Revision Counsel. 26 US Code 1211 – Limitation on Capital Losses
6
Internal Revenue Service. Topic No. 429, Traders in Securities
7
Internal Revenue Service. Revenue Procedure 99-17
8
Internal Revenue Service. Instructions for Form 3115
9
Office of the Law Revision Counsel. 26 US Code 1091 – Loss From Wash Sales of Stock or Securities
10
Office of the Law Revision Counsel. 26 US Code 172 – Net Operating Loss Deduction
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Office of the Law Revision Counsel. 26 USC 1256 – Section 1256 Contracts Marked to Market
12
Internal Revenue Service. About Form 6781, Gains and Losses From Section 1256 Contracts and Straddles