Every active trader looks to maximize investment gains. And one way to achieve this aim is by ensuring that Uncle Sam gets to take a minimum share of the revenues. While there are several strategies you can implement to reduce the tax burden, one effective strategy that not many traders may not know about, is by creating a limited liability company (LLC).
Apart from saving on taxes, there are many other benefits for traders to carry on the investment activities as a registered entity, which we will briefly discuss in this article.
Tax Benefits of Forming an LLC
The IRS allows an individual investor to offset investment gains with losses on a dollar-by-dollar basis. However, if the losses exceed the gains, the investor can deduct a maximum of $3,000 in a tax year ($1,500 if married and filing separately). There have been talks in the Congress about raising the caps for annual capital losses but no action has been taken up till now.
When you trade as a legal entity, you won’t be subject to those annual capital loss limits. Apart from that, there won’t be any limits on itemized deductions. Registered traders are allowed to treat their losses as an ordinary loss instead of a capital loss.
Also, the IRS does not scrutinize every trade in the same way it looks at the trades of independent traders. The logic for this move is that since the individuals have gone through the ordeal of forming a legal entity, all of the transactions would fulfill strict trading requirements. On the other hand, trades made by individual traders are thoroughly scrutinized by the IRS to ensure that they are taxed appropriately.
Moreover, you can give tax-free money to your children by making them employees of the company. The company can deduct education expenses and salaries of the employed family member as well as build Medicare and social security accounts. You can also fund elective healthcare insurance premiums of your wards through medical reimbursement plans. And that’s not all.
Protection of Personal Assets
Another solid reason for forming an LLC for active traders is that their personal assets will be protected in case of defaulting on a loan. The legal liabilities are limited to the assets held by the legal entity. Creditors can’t claim assets of the individuals to pay back the loan amount.
Maximize Retirement Contributions
You can boost your retirement contributions by transferring 401(k)s and IRAs to the 401a. This is money-purchase retirement plan having a greater contribution limit of $49,000 per year. Also, creditors can’t claim amount in the account in the event of a default.
On a final note, active traders won’t have any difficulty in recognizing themselves as a registered trader in the eyes of the IRS. The reason is that they fulfill two cardinal rules for a legal entity i.e. the trading activity must be substantial, and it should be done to profit from short-term instead of long-term market price changes. So, there is nothing to lose but gain for active traders when they register as an LLC.