In most years, the top 1% of income earners in the United States pays about 40% of all income taxes, according to the latest data from the IRS. Because so many private businesses in the U.S. are LLCs and S-corporations, 100% of the income flows through to the individual and is taxed at the individual level. Most of the business owners we work with are in the highest tax bracket. Taxable investors cannot afford to overlook an important fact: Wealth compounds after tax. Taxes can impact a portfolio as much as returns or fees.
To help business owners keep more of their investment returns and pay less tax, portfolio architecture can be a power tool. One avenue business owners can pursue to reduce tax expenses is with trader funds.
What is a trader fund?
A trader fund is a type of investment fund that is designed to engage in frequent buying and selling of securities.
There are now systematic, evidence-based strategies offered as trader funds. These funds are typically structured as partnerships and are treated as pass-through entities for tax purposes, which means that the fund itself does not pay taxes on its income or gains. Instead, the profits and losses of the fund are allocated to its partners, who are responsible for paying taxes on their share of the income. Generally, gains are deferred, while losses, both ordinary and active, are realized.
Benefits of trader funds
One of the main benefits of a trader fund is that it can help to reduce tax expenses. By investing in a trader fund, traders can take advantage of the fund’s pass-through tax treatment to defer or reduce their tax liabilities. Specifically, traders may be able to deduct certain trading-related expenses, such as brokerage fees and trading software subscriptions, as well as capital losses incurred by the fund.
Another advantage of trader funds is that they can provide investors with greater flexibility in managing their tax liabilities. Because the funds are structured as partnerships, investors can typically receive allocations of income and gains in a manner that is tailored to their individual tax situations.
For example, a high-income investor may prefer to receive more capital losses to offset their other investment gains, while a lower-income investor may prefer to receive more ordinary income to take advantage of lower tax rates.
Trader funds considerations
However, it’s important to note that trader funds are not suitable for all investors, and there are certain risks associated with investing in these funds. Because they are designed for active traders, trader funds may have high turnover rates and may be subject to significant market volatility.
Additionally, the tax rules governing trader funds can be complex, and investors should consult with a qualified tax professional before investing in these funds.
A trader fund can be a useful tool for active traders who are looking to reduce their tax expenses. By taking advantage of the fund’s pass-through tax treatment and flexibility in allocating income and gains, investors can potentially lower their tax liabilities and manage their investments more effectively. However, investors should carefully consider the risks and tax implications of investing in trader funds before making any investment decisions.
Wondering if trader funds could help reduce your tax expenses? Our team at Delap Wealth Advisory is ready to support and advise you. Start a conversation with an advisor today.
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