Section 1256 Explained: How Some Index Options Get 60/40 Tax Treatment and Year-End Mark-to-Market

The same market view can be expressed through instruments that the tax code treats very differently. With about twelve weeks left in 2026, it's a useful moment to understand one of the tax code's more unusual rules: Section 1256, which treats certain contracts very differently from ordinary stock options. This is a general explainer, not guidance for any individual's situation.

What counts as a Section 1256 contract

Under the Internal Revenue Code, a section 1256 contract is "any regulated futures contract, any foreign currency contract, any nonequity option, any dealer equity option, and any dealer securities futures contract" (26 U.S.C. §1256(b)(1)).

The piece that matters most to options traders is the nonequity option: a listed option that is not an equity option. An equity option, in turn, is one on a stock or on a narrow-based security index.

In practice, that is why Cboe says index options are Section 1256 contracts that qualify for 60/40 tax treatment, and why options on individual stocks generally don't. Whether a specific product qualifies depends on how it is structured, so check the contract specifications and a tax professional rather than assuming.

Two rules that change the math

Mark-to-market at year end. A section 1256 contract still held at the close of the tax year is treated as if it were sold at fair market value on the last business day of that year (§1256(a)(1)). In other words, an open position can produce taxable gain or deductible loss for the year even though it hasn't been closed.

The 60/40 split. Gain or loss on these contracts is treated as 60% long-term and 40% short-term (§1256(a)(3)), and Form 6781 is the IRS form used to report it. The split applies regardless of how long the position was held.

A hypothetical, with round numbers

These rates are assumed for illustration only and are not actual 2026 rates. Suppose short-term gains were taxed at 30% and long-term gains at 15%. The blended rate on a 60/40 split would be 0.60 × 15% + 0.40 × 30% = 21%.

On a $10,000 gain under those assumptions:

• Entirely short-term: $3,000 owed.
• 60/40 contract: $2,100 owed.
• Held more than a year and fully long-term: $1,500 owed.

So the result isn't always lower. And the rule applies to losses as well, so a loss is also split 60/40.

Other features worth knowing

• Wash sales. The wash-sale rule disallows a loss when a substantially identical position is bought within 30 days before or after. It generally does not apply to losses taken into account through the year-end mark-to-market rule (§1256(f)(5)). The scope is narrow, so don't read it as a blanket exemption.
• Loss carryback. Individuals can elect to carry a net section 1256 loss back up to three prior years, only against net section 1256 gains in those years (§1212(c)).
• Straddles. Positions that offset each other can trigger separate loss-deferral rules, and mixed combinations involve their own elections. These are complicated enough that professional help is the norm.

What could go wrong

Mark-to-market cuts both ways. A trader can owe tax on gains that disappear the next month, which creates a cash-flow question as well as a tax question.

Index options also carry real trading risk: buying options can mean losing the entire premium, and selling them can produce losses larger than the premium collected. Tax treatment is only one factor in evaluating any strategy, and a favorable tax rule doesn't make a trade less risky.

The takeaway

Understanding categories like "nonequity option" and rules like 60/40 and mark-to-market helps readers ask better questions of a tax professional. Rates, thresholds, and rules change, so confirm current details at IRS.gov or with a qualified adviser.

This article is educational commentary on tax rules, not personalized investment, trading, or tax advice, and not a recommendation to buy or sell any security. Options involve significant risk and are not suitable for everyone.