Section 481(a) Adjustment

This topic should be used in conjunction with the Form 3115 topic.

So what is a Sec 481(a) adjustment? There are quite a few types of Sec 481(a) adjustments so I will limit this to the adjustment regarding the Mark to Market ("MTM") election. The term "Section" refers to Section 481 of the Internal Revenue Code, abbreviated "Sec".

By definition, if you are making the MTM election, you are considered a "Trader in Securities":

Sec 475(f) - (A) In general. In the case of a person who is engaged in a trade or business as a trader in securities and who elects to have this paragraph apply to such trade or business ...

Thus, you have probably been trading for some time and have some amount of open positions at the end of the year BEFORE your MTM tax year begins. For example, if you made the MTM election on 4/15/2026 with your 2025 tax return, your first MTM tax year is 2026. The Sec 481(a) adjustment applies to the open securities as of 12/31/2025.

The best way to illustrate this is by using an example with both stock and options:

As of 12/31/2025 you own two stocks and two short call options on those stocks:

100 shs of Broadcom bought for $294.00 with a fair market value of $346.10

1 Broadcom short call contract sold for $12.25 with a FMV $14.63

100 shs of Intuitive Surgical bought for $578.87 with a FMV of $566.36

1 Intuitive Surgical short call contract sold for $10.35 with a FMV $4.05

Your Sec 481(a) adjustment would be $4,351 for the 2026 tax year, calculated as follows:

You would report your Sec 481(a) adjustment on BOTH Form 4797 and Form 3115, page 4 and take the entire adjustment into income for tax year 2026. If the adjustment is negative it is all recognized in the current year or if positive but less than $25,000, it is recognized over 4 years but the taxpayer can elect to recognize it in the current year. If above $25,000 or more it may be spread over 4 years, the current year and 3 subsequent years. There are exceptions to the four-year rule.

However, what if you had NO open positions as of 12/31/2025? Would you still need to file Form 3115 and calculate some sort of Sec 481(a) adjustment? Well, actually "Yes" and "No", respectively.

You do need to file Form 3115 to indicate to IRS that you have changed your method of accounting and since it is an affirmative election and an automatic change, you will NOT receive acknowledgement of the election from IRS. But you do not need to calculate a Sec 481(a) adjustment because, quite frankly, there is nothing to adjust. Therefore, there will be no Sec 481(a) adjustment on either Form 4797 or Form 3115, page 4.