A day trade is what happens when you open and close a security position on the same day.
What Is a Pattern Day Trader?
You are a pattern day trader if you make four or more day trades in a rolling five business day period, and those trades make up more than 6% of your account activity within those five days.
There are different types of day traders but the following two are the main ones:
- Self-identified day traders. This includes folks who are actually day traders, meaning their brokerage is aware that they intend to day trade and they meet the requirement of a $25,000 minimum account value.
- Pattern day trading violators. These are people who day traded in violation of the rules without meeting the sufficient capital requirement.
What Happens If You are a Pattern Day Trader?
It depends on your brokerage. For first-time offenders, the consequences might not be so bad, assuming your brokerage has a more forgiving policy. However, you will likely be flagged as a pattern day trader (in the violator sense) just so your broker can watch your activities for any consistent or repeat offenses.
If you make four day trades in a rolling five days, some brokerages may subject you to a minimum equity call, meaning you have to deposit enough funds to have a minimum account value of $25,000 (even if you don’t intend to day trade on a regular basis). Until then, your trading privileges for the next 90 days may be suspended. You could be limited to closing out your positions only. And your margin buying power may be suspended, which would limit you to cash transactions. If you make an additional day trade while flagged, you could be restricted from opening new positions.
This is a big hassle, especially if you had no real intention to day trade. If you violated the pattern day trading rules by accident, or if you were tempted to take some profits (or close out losses) within the same day—enough to get flagged in violation—the hassle just isn’t worth the momentary lapse in caution. But if you inadvertently end up flagged as a day trader and don’t intend to day trade going forward, you can contact your broker who may be able to give you some alternatives to avoid trading restrictions. Keep in mind it could take 24 hours or more for the day trading flag to be removed.
If you do want to officially day trade and apply for a margin account, your buying power could be up to four times your actual account balance. You could inform your broker (saying “yes, I’m a day trader”) or day trade more than three times in five days and get flagged as a pattern day trader. This allows you to day trade as long as you hold a minimum account value of $25,000, and keep your balance above that minimum at all times.