Note that I am not a tax professional, nor am I licenced to give tax advice. The information in this post is simply ideas to bring to your attention, as I think it is important. Please consult your tax professional directly for advice.
Tax can be a bit of a scary topic.
But recent global regulatory changes have brought trading accounts into the limelight, so it’s something we need to look at if we want to be efficient with our finances.
It is now the responsibility of global brokers to report to global regulators and tax authorities on their clients’ holdings in their trading accounts.
The important point to note is that brokers certainly are not allowed to take any money out of your account to pay tax. What you will find, though, is that the tax man will make sure that you include your trading profits on your tax bill.
It may also mean that if you have an account in a foreign country, you will be taxed in that country and your home country. Many countries have a tax treaty in place to avoid double taxing, but it can still mean you pay an overall higher rate of tax on your trading profits.
Legally reducing your tax
To be tax efficient requires the use of structures such as companies and trusts, as well as accounts in the name of family members who may be in a lower tax bracket.
Setting up a company
Setting up a company for your trading will allow your profits to be taxed at the effective corporate tax rate. It will also allow you to deduct your trading expenses and create other tax efficiencies, such as the ability to claim back sales tax in some circumstances.
You will have set-up costs, ongoing fees, and accounting costs that will add to your annual expenses, so you need to make sure the benefits outweigh the costs. I would suggest waiting until your trading capital is over at least $50,000 and you are consistently profitable before you transfer your trading to a company structure.
This is important as if you are not profitable, then you can deduct your losses from your income, so it is generally best to have your trading account in your personal name.
Setting up a trust
A trust allows you to distribute your income to trustees, who are typically your family members. (A trustee can also be a company.) This allows you to distribute income to those in lower tax brackets, which can be quite useful.
A trust also allows a degree of asset protection in the event of personal bankruptcy, as the assets in the trust are not owned by you (they are held in trust); you simply control them. This is a strategy often used by the wealthy to protect their assets.
Setting up an account in a family members’ name
This can be a tax efficient structure if one family member earns less than another and is in a lower tax bracket.
The person whose name the account is in will need to set up the account (you cannot set it up for them) and they will need to provide you authority to trade on the account via a Power of Attorney (which can be gotten from a broker).
The funds will need to come from a bank account in the name of the person who sets up the account and they will have to do any withdrawals. Power of Attorney only gives you the ability to trade on the account, but not to deal with funds or account-related issues.
Foreign companies are a tax efficient option
Setting up a foreign company in a tax efficient location may allow a trader’s profits to be taxed at a much lower rate. For example, in Hong Kong or Singapore, the company may be taxed at 10% or even less. This can provide large savings, compared to being taxed at 30% on profits in Australia, for example.
Setting up a foreign company is not too difficult if you research it. A word of warning is to consider that places like the British Virgin Islands and the Cayman Islands may be tax efficient, but they are seen as high-risk locations by some brokers, so you may not be able to set up an account with them, or they may require substantial documents proving your source of funds, due to global Anti-Money Laundering measures.
You do need to consider the cost of international transaction fees, as well as often greater compliance and accounting costs that you need to pay on foreign companies. You may also need a local director for your company, which will cost you yet again, so it’s not all roses.
There should be no double taxing on profits the company makes in its trading account as long as that account is set up in the same country as the company; this may not be the case with the new global regulations if you have a personal account in a foreign country.
Foreign trusts may have different tax rules that negate the tax benefits if you are living overseas. Generally, it is much simpler to set up a trust in your home country.
The importance of being tax efficient
There is nothing wrong with being smart about your money.
You work hard for your money and if you can set up a tax efficient vehicle for your trading, then there is no reason you shouldn’t.
But before you do anything, be sure to seek proper tax advice from an expert. The last thing you want to do is accidentally break any laws because that will be far costlier in the long run.
Take care.
Cheers,
Sam
About the Author
Sam Eder is a currency trader and author of The Consistent Trader and the Advanced Forex Course for Smart Traders (get free access). He is the owner of www.fxrenew.com a provider of Forex signals from ex-bank and industry traders (get a free trial). If you like Sam’s writing you can subscribe to his newsletter or get FREE access to his acclaimed How to Be a More Consistent Trader Short Course.