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 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 an active trader immune to the effects of murky trading tax law. We generally recommend that day 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.
In some cases we recommend that the trader establish two legal entities. Generally, the combination structure is composed of a C Corporation and an LLC. The combination structure is used in very limited circumstances to utilize the advantages of each type of business.
Check out our Trading as a Business Entity comparison to see which entity, if any, would be appropriate for your active trading business. Business Entity Selection or call 1-855-334-7936