The main disadvantages of prop trading arise from being classified as a market professional, profit sharing, and whether your trading profits are taxed as capital gains or ordinary personal income.
Click here for a quick overview of potential savings when staying non-pro.
Who is considered a market professional?
When trading other people’s money, you’re generally considered a market professional by the exchanges. This can have costly consequences and significantly, and often unnecessarily, increase the fixed costs of your trading business. Especially new traders will find this a steep hill to climb at the beginning of every month. Look at the breakdown of various fees and tax considerations below for potential savings of staying non-pro.
Market data fees
Being classified as a market professional comes at a steep cost. Basic Level 1 professional data for NYSE and Nasdaq will cost you $74/month and quickly go beyond $100 if you add Level 2 data.
Alternative: stay non-pro and pay $8/month. Potential savings: $66-100
Many equity prop firms only offer Sterling Trader Pro or Sterling LST to their traders, which can set you back anywhere between $150-280 depending on your broker. Software rebates are usually only offered for significant trading volume.
Alternative: stay non-pro and trade through our preferred broker Alaric Trader. They also offer Sterling Pro for $150 but their excellent in-house platform HAMMER is priced at $29.95/month with arguably better charting. Potential savings: $120-250
In return for offering higher buying power, equity prop firms keep anywhere from10-40% of your profits. In this day and age you should seek out brokers offering equivalent leverage with no profit share (starts with an A and ends with C, hint hint). Check your other options here.
Alternative: stay non-pro and keep 100%. Potential savings per $10,000 in profit: $1,000-4,000
How are my profits taxed?
When trading through a prop firm you’re an independent contractor or partner in a pass-through entity like an LLC. Consequently, your profits will be taxed at your personal income tax rate instead of a potentially much lower capital gains tax rate.
Capital gains vs. personal income tax
Personal income tax rates vary greatly across the world and the same is true for short- and long-term capital gains tax rates. So please do yourself a big favor and compare the applicable rates in your country to make an educated decision.
The paradox here is that taking the prop trading route for the purpose of increasing the income potential only makes sense if traders are willing to escape the progressive tax rates for higher incomes in their home country.
Alternative: stay non-pro and pay applicable capital gains tax (zero for profits from the sale of securities if you’re lucky enough to trade from Cyprus or Singapore etc.). Potential savings per $10,000 in profit: depends on the difference between personal income and capital gains tax in your country.
Capital losses vs. nada
In addition to the profit share, you need to be aware of the fact that offshore prop trading firms “own” your capital losses. I know, nobody wants to talk about losses, but you have to account for all possible scenarios.
Alternative: stay non-pro and carry those unfortunate capital losses forward or backward to other tax years. Potential savings: depends on how unfortunate your trading year was.
Disadvantages of prop trading – Conclusion
The disadvantages clearly seem to outweigh the few benefits left over in the current remote prop trading business model. So stay non-pro and treat yourself to a nice vacation with the substantial savings, compound your winnings to make even more money next year or head straight for a tax haven with sandy beaches and palm trees while keeping a big chunk of your profits!