If you trade foreign exchange (FOREX), especially full time, you may have wondered from time to time which business formation you should operate under. As with most businesses in the USA, the choice of entity that you choose will depend on your personal and business needs. This article explores three possible choices available to the FOREX trader.
This type of business entity allows the trader to simply conduct business in the name of the trader without the need for filing complex legal documents with regulatory agencies. In most jurisdictions, an assumed or fictitious name certificate would be required if you were conducting business in a name other than your personal name. As a practical matter, however, most traders simply set up an account with a broker and begin trading in their personal name.
The real concern here is whether you are interacting with the general public in such a way as a business that the authorities would want to charge you with some level of accountability. As an investor simply going online to trade without the visibility and public interactivity of a full-fledged business, your responsibility may just be to make sure you properly report your trading results to the tax authorities. Your own social security number would serve as the Federal Tax I.D. Number for income tax purposes. One final thing to note here is that, as a sole proprietor, you are personally exposed to the full extent of liability against other parties in the relatively rare situations giving rise to such.
A partnership is an agreement between two or more parties to conduct business and share profits and losses according to an agreed formula. In the context of the FOREX, this would involve investors who decide to pool their financial and possibly other resources for trading purposes. The benefit of this form of operation is that the entity itself pays no taxes. Rather, the tax losses and gains are determined as of year end and then passed along to you and other respective partners according to the agreed formula. The split income or loss is then accordingly applied to your personal tax return. Inc File review
This type of entity requires more administrative duties than the sole proprietor or individual investor formation, since a U.S. Tax Form 1065 must be prepared and K-1 forms issued to each partner. As to liability against third parties, you, along with any of the other general partners, may be held responsible for the full extent of the amount imposed, unless you fall within the category of a “limited partner”.
Licensed Limited Company
Also referred to as an “LLC”, this type of entity is of statutory creation and a relative newcomer in comparison to the sole proprietorship and the partnership. In theory, it is a hybrid with the positive traits of both the partnership and the corporation. Operating as an LLC, you may also have the ability to deduct or offset certain expenses that would otherwise be unavailable to the individual investor or sole proprietor.
Although not discussed in detail here, the corporate structure theoretically provides the distinct advantage of limited liability for its owners known as shareholders. Consequently, you and the other owners of the LLC, are exposed to liability from third parties only to the extent of your investment in the LLC. As with the corporation, however, if somehow the veil is successfully pierced by a litigant, you can be held individually and fully responsible for the liability.
The similarity between the partnership and the LLC relates to the “pass-through” feature regarding the income, losses and tax impact. While the entity itself is not taxed, you, as owner, will receive your respective portion of the tax income, loss, and consequent tax impact. Both the LLC and the partnership assume there is more than one trader in the picture as, for example, in the case of a formal investment club or other common fund approach.
As between this entity and the partnership form of operation, the LLC would generally be the better choice for investors. Again, that all depends on your personal and business needs. Overall, however, you will find most retail FOREX traders utilizing the single investor or sole proprietor approach for its simplicity and convenience. Nonetheless, be sure to check with an attorney in your jurisdiction to see which business entity is best for you.