Covered-call premiums are generally not taxed when you receive them for U.S. federal tax purposes. For the **** tax year, the tax event usually occurs when the call expires, you buy it back, or the call is exercised. A $250 premium can therefore receive different tax treatment depending on what happens to the option.

These rules apply to an individual investor using a taxable brokerage account. They do not cover options dealers or traders using a special mark-to-market election.

Covered-Call Tax Treatment

What happens to the call? How the premium is treated Typical tax character
Call expires worthless You recognize the premium as income Short-term capital gain
You buy back the call Premium received minus the cost to close Short-term capital gain or loss
Call is exercised Premium increases the proceeds from selling the stock Stock gain or loss, short-term or long-term
You roll the call The old call closes and the new call starts a separate transaction Gain or loss on the old call is recognized

If the Covered Call Expires Worthless

Suppose you write one call and receive a $250 premium. If the call expires without being exercised, the $250 is generally reported as a short-term capital gain in the year the option expires.

The gain does not become long-term just because you held the underlying shares for more than one year. The IRS generally treats the premium from an unexercised written call as short-term capital gain for a nondealer investor. IRS Publication 550

Your stock basis generally remains unchanged.

If You Buy Back the Covered Call

If you receive a $250 premium and later pay $80 to close the call, the result is usually a $170 short-term capital gain:

$250 premium received
- $80 cost to close
= $170 short-term capital gain

If you pay $300 to close the call, the result is usually a $50 short-term capital loss:

$250 premium received
- $300 cost to close
= $50 short-term capital loss

For a written call, the gain or loss from a closing transaction is generally short-term, regardless of how long you held the underlying shares. IRS Publication 550

If the Call Is Exercised and Your Shares Are Assigned

When a covered call is exercised, the premium is added to the proceeds from selling the stock.

Example

You own 100 shares with a cost basis of $5,000. You write a call with:

  • Strike price: $55
  • Premium: $2 per share
  • Total premium: $200

If the shares are assigned:

Stock sale proceeds:       $5,500
Covered-call premium:      +$200
Total amount realized:     $5,700
Original stock basis:      -$5,000
Taxable stock gain:          $700

The $700 gain is generally:

  • Short-term if you held the shares for one year or less
  • Long-term if you held the shares for more than one year

The $200 premium is not reported separately as a short-term gain in this situation. It increases the amount realized from the stock sale. IRS Publication 550

How Short-Term and Long-Term Taxes Apply

Covered-call transactions generally produce capital gains or losses, but the tax rate depends on the transaction:

  • Short-term capital gains are taxed at ordinary federal income-tax rates.
  • Long-term capital gains may qualify for lower capital-gain rates.
  • Capital losses can offset capital gains, subject to the usual capital-loss rules.
  • The 3.8% Net Investment Income Tax may apply to certain taxpayers with sufficiently high modified adjusted gross income. IRS Topic No. 409

The premium from an expired or closed written call is usually short-term. If the call is assigned, the resulting stock gain can be long-term when the shares meet the required holding period.

How Covered Calls Affect Qualified Dividends

Writing a covered call can affect whether dividends from the underlying stock qualify for lower qualified-dividend tax rates.

For the qualified-dividend holding-period test, days during which you have granted an option to buy substantially identical stock generally do not count. If writing the call causes you to fall below the required holding period, some or all of the dividend may be taxed as an ordinary dividend instead of a qualified dividend. IRS Publication 550

This issue is separate from the tax treatment of the call premium. The same position can produce:

  • A short-term capital gain from the option premium, and
  • An ordinary dividend because the call reduced the relevant holding period.

What Is a Qualified Covered Call?

Not every call written against stock you own qualifies as a qualified covered call under the tax rules.

Among other requirements, a qualified covered call generally must:

  • Be traded on a qualifying exchange or market.
  • Be granted more than 30 days before expiration.
  • Generally have a term of no more than 12 months or meet additional benchmark requirements.
  • Not be deeply in the money.
  • Be held by someone who is not an options dealer.
  • Produce capital gain or loss rather than ordinary income.

This classification matters because a nonqualified covered call can interact with the straddle rules. Those rules may defer losses or affect when gains and losses are recognized.

A short-dated call written shortly before expiration may not meet the requirements for qualified covered-call treatment. IRS Publication 550

How Covered Calls Are Reported

For most individual investors, option transactions are generally reported on:

  • Form 8949, Sales and Other Dispositions of Capital Assets
  • Schedule D, Capital Gains and Losses

If a written call expires, use the expiration date for the transaction. If a call is assigned and the broker's Form 1099-B does not include the option premium in the stock-sale proceeds, the IRS instructions allow the premium to be entered as a positive adjustment on Form 8949.

Check whether the broker already included the premium. Adding it again would overstate the proceeds.

Does Rolling a Covered Call Defer the Tax?

Usually, no. A roll normally involves two separate transactions:

  1. You buy back the existing call, which creates a current gain or loss.
  2. You sell a new call, whose premium is recognized when that new call expires, is closed, or is exercised.

Rolling a covered call does not erase the taxable result from the original call.

Bottom Line

The date you receive a covered-call premium is usually not the key tax date. Identify what happened to the call:

  • If it expired, the premium is usually a short-term capital gain.
  • If you closed it, the difference between the premium and closing cost is usually a short-term gain or loss.
  • If the shares were assigned, the premium is included in the stock-sale proceeds, and the stock gain may be short-term or long-term.
  • If the stock paid dividends, review whether the call changed the qualified-dividend holding period.

Use your broker's transaction history and Form 1099-B as a starting point. Deeply in-the-money calls, straddles, wash sales, frequent trading and retirement accounts can require different analysis. A tax professional should review unusually large or complicated positions.