D ay traders -- there are still plenty of them -- make money buying and selling stocks with rapid turnover. They can boost their bottom line by following these proven tax-saving strategies...

Loophole: Tailor trading patterns to ensure that the IRS grants you favorable tax treatment as a "trader." Traders, who are taxed as a business, avoid many of the hurdles long-term investors face.

Investors trade infrequently, buying and selling securities to earn income from interest, dividends, and capital gains over time. Traders handle securities differently.

While the IRS has no strict definition of day trading, if you follow these general guidelines, you should be considered a trader...

Base your buy/sell criteria on short-term swings in the market.

Make substantial, frequent, and regular securities trades, generally daily, to generate what you expect to be your primary income source for meeting your living expenses.

Hold stock generally 30 days or less.

The length of trades and the nature of the trading are generally more determinative of your status than the number of trades.

Loophole: Make the "mark-to-market" election under Section 475 of the Tax Code. Making the election will help you avoid problems long-term investors have, including...

Wash-sale prohibition. The wash-sale rule prevents investors from deducting a loss when they sell shares of stock and then buy back the same shares within 30 days before and 30 days after the original sale. The mark-to-market election eliminates this prohibition.

Investment interest limitation. In general, investment interest can be deducted only to the extent of investment income. Making the election lets you deduct all your investment interest, regardless of the income earned.

Investment expense limit. These are usually treated as miscellaneous expenses, which are deductible to the extent they exceed 2% of adjusted gross income (AGI). No AGI limit exists if you make the mark-to-market election.

Investment loss limit. The general rule -- that capital losses are first offset against capital gains, with $3,000 more used to offset ordinary income and the balance carried over into future years -- is eliminated. Losses are fully deductible if you use the election.

Possible downside: Year-end gains or losses on open positions are recognized for tax purposes.

If you make the election, show the gross sales reflected on your brokerage statements on Schedule D of your tax return, calculating capital gains and losses as usual. Subtract the net gain or loss from Schedule D, and transfer it to Schedule C.

The IRS computers that cross-check Forms 1099 issued by brokerage firms against individual tax returns won't automatically kick out your return for review when you report net capital gains and losses on Schedule C, which is generally used to report business earnings.

Loophole: Operate as a "proprietary trader." Proprietary traders are partners in a partnership or members of a limited liability company set up by the company that they trade with. All operations and reporting are done at the partnership/company level.

Individual traders receive Form K-1 listing the amounts they report on their own returns. How income and losses are reported is decided by the partnership/company, not by individual traders, including the mark-to-market election.

Loophole: Before the end of each day, identify any trades you intend to hold as long-term investments. This ensures that those investments will be taxed at favorable long-term capital gains rates -- no more than 20%.

Best: Maintain long-term investments in accounts at a different brokerage house from the one you use for your day trading.

Loophole: Make the most of deductible day trading expenses. These generally are deducted on Schedule C of your return. However, proprietary traders deduct expenses on Schedule E as unreimbursed partnership expenses.

Deductible day trading expenses include: Margin interest... books and subscriptions on investing... Internet fees... news services... investing seminars and courses (including travel costs)... computer expenses... entertainment related to your trading activities... telephone, DSL, or cable costs... business gifts (up to $25 per person per year)... office supplies, furniture, and decoration... briefcases... and home-office expenses.

Loophole: Don't pay self-employment taxes on day trading income. While day trading income is reported as trade or business income, the IRS specifically exempts capital gains or losses from being treated as net earnings from self-employment.

Opportunity: If you have paid self-employment tax on your trading income in previous years, file an amended return on Form 1040X to claim a refund.

People whose sole source of income comes from trading, which is exempt from self-employment tax, may not be covered by Social Security and Medicare.

If you earn a minimal amount of income in a sideline business, such as consulting, you can file a Schedule C and pay minimal Social Security and Medicare taxes to ensure coverage.

Loophole: Pay federal estimated taxes regularly to avoid IRS penalties. Trading income is not subject to tax withholding, so you must pay estimated taxes in four installments. To avoid penalty...

You must pay estimated taxes equal to last year's tax or 90% of your current year's tax, whichever is less, if your AGI was no more than $150,000 ($75,000 for individual filers) in the preceding year.

You must pay estimated taxes equal to 110% of last year's tax or 90% of the current year's tax if your AGI exceeded $150,000 in the preceding year.

No taxes are due if you earned no income the previous year.

Loophole: Pay state estimated taxes early so you can deduct them on your federal tax return. Every state has its own requirements for minimum estimated state taxes. Whenever you can, however, pay state taxes no later than December 31 of the year in which they accrue. That way, you can deduct the total on your federal tax return.

Caution: Before paying state estimated taxes early, prepare year-end tax projections to avoid triggering the alternative minimum tax.