Traders Accounting does not use a cookie cutter or automated approach for your trading tax savings. Your recommendation is based on the information you provide as the individual trader. Active trader business incorporation services are tailored to meet your unique needs for tax efficiency. The first step in the process is to determine your trader’s tax status. Will you meet the definition of a trader in securities per IRS and tax court guidelines.
- As an individual these vague guidelines leave many questions.
- How long can I hold my positions?
- How often do I have to trade?
- How many trades does it take to be considered substantial activity?
- If the market is not conducive to my trading strategy how long can I stay out of the market without bringing my continuity and regularity of trading into question?
The above are a just a few examples out of a myriad of questions the IRS and the tax court looks at to determine a trader’s tax status. Unfortunately, the IRS does not seem interested in offering any help. Instead, they seem more than happy to leave it up to the tax courts to determine how these guidelines apply in the real world. While tax court justices excel at interpreting tax law, it can be difficult to use their decisions to develop black and white rules. Each individual’s circumstances are unique and may be interpreted differently.
Because of the uniqueness of each individual there is no one sure fire strategy to make a active trader immune to the effects of murky trading tax law. We generally recommend that active traders conduct their active trading business in a legal entity (usually an LLC). When you set up a legal entity to trade in, the mere act of setting up the entity tells the IRS that you are going into the active trading business. That said, if you are a trader, you still must be an active-short term trader in an entity. You must treat your trading as a business; learning to document your trading time, your expenses, and a few other matters.
To determine whether an individual is in the business of trading, as a Sole Proprietor, the IRS looks at three main factors.
- You must seek to profit from daily market movements in the prices of securities,
- Your trading activity must be substantial, and
- You must carry on the activity with continuity and regularity.
In order to determine if the active trader is following these conditions the IRS looks at the following facts and circumstances:
- Typical holding periods for securities,
- The frequency and dollar amount of trades,
- The extent to which you pursue the trading activity to produce income for a livelihood, and
- The amount of time devoted to the trading activity.