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September 04, 2018 | Posted in:

Tax Tips for Managing Capital Gains

If not tracked and managed properly, capital gains tax can come as a large surprise at tax-filing time. In fact, many taxpayers don’t realize they have a capital gain until they get their 1099 form in January and see a capital gain distribution. Here’s what you need to know.

 

Understand Capital Gains and Their Taxability

Capital gains are recognized when you sell a capital asset for more than your basis in that asset. Capital assets are typically something of value like your home, a car and other investments.  Basis is typically the original cost of the asset being sold. The difference between the sales price of the asset and your basis is the amount of the taxable capital gain.

The IRS taxes short-term capital gains for assets owned less than one year as ordinary income up to 37 percent, but taxes long-term capital gains at a maximum 23.8 percent (20 percent plus a potential 3.8 percent net investment tax).

“Mutual funds typically distribute capital gains to the shareholders, and these are usually reinvested in the fund.  This means you get taxable capital gain income even though you didn’t get a check.  Depending upon the activity in the fund, this number could be large and unexpected.  Most mutual funds will post information on their websites toward the end of the year to discuss what capital gains their shareholders should expect.” – Julie Strohlein, CPA

Ways to Manage Capital Gains Tax

  • Hold investments for more than one year. 

    Long-term gains (assets sold more than a year after acquisition) are taxed at the lower capital gains rate. If you are able to hold assets for more than a year, you will save tax dollars by avoiding the gain being classified as ordinary income.

  • Sell large gains in low-income years. 

    If you expect lower income this year, it might be a good time to sell some of your capital gain investments. Since the capital gains tax brackets are quite similar to the marginal income tax brackets, if you are in a lower income tax bracket in a given year you may pay a lower capital gains tax.

    “Taxpayers in the lowest two tax brackets have a 0% capital gains rate, so they wouldn’t pay tax on the capital gains at all. ” – Julie Strohlein, CPA

    “A good strategy for retirees in particular is to manage their income and sell assets with the goal of staying in that 0% bracket.” – Rich Middleton, CPA

  • Harvest large losses in high-income years. 

    If you have a high-income year you can save taxes by selling investments that have lost money. Capital losses help reduce your capital gains with the tax liability calculated on the net amount. Be aware of IRS netting rules that require you to net long-term losses with long-term gains and short-term losses with short-term gains. If one results in a net loss and the other a net gain, they are then netted against each other. If the final amount results in a net loss, the most you can deduct against ordinary income in one year is $3,000. The excess losses must then be carried forward to future tax years.

    “The capital loss carryover applies at the federal level; your home state may limit your losses to the current year only.” – Rich Middleton, CPA

    “You must also be careful about the wash sale rule.  If you sell a security in order to harvest the loss, but you then buy it (or a “substantially identical” security) back within 30 days, the loss is disallowed for tax purposes. ” – Julie Strohlein, CPA

  • Gift your investments to your kids. 

    You are allowed to gift up to $15,000 per year to each of your kids ($30,000 per married couple). If you gift appreciated investments to a child under 19 and they then sell that investment, each child can receive favorable tax treatment on up to $2,100 from their taxes. Be careful if you go over the annual exemption. Higher levels of unearned income for children, including capital gains, is now subject to estate and trust tax rates.

    “The gift tax exclusion doesn’t only apply to your kids.  You can give $15,000 to as many people as you desire.  This means a husband and wife could collectively give $30,000 to their son, $30,000 to their daughter-in-law, $30,000 to each grandchild, etc.  The gift recipients don’t even need to be related to you.” – Julie Strohlein, CPA

  • Consider donating property. 

    If you donate appreciated property to a qualified charity you can deduct the donation as an itemized deduction. Even better, if the property is owned by you for more than one year, you can deduct the current market value without being subject to capital gain tax.

    “For example, if you bought a mutual fund for $1,000 many years ago and it is now worth $10,000, you can donate the fund to charity.  You get a $10,000 charitable deduction and you never have to pay tax on the $9,000 capital gain.” – Julie Strohlein, CPA

    “Gifts of appreciated property are subject to certain limitations based on your income and the type of organization receiving the property.” – Rich Middleton, CPA

  • Sale of primary residence exclusion.

    If you sell your home, you may qualify to exclude $250,000 of the gain from capital gains tax ($500,000 if married filing jointly). In order to qualify, you need to own the home and have occupied the home as your primary residence for at least two of the previous five years. The two years do not need to be simultaneous.

  • Free Long Term Capital Gains.

    If you have a long term capital gain you potentially can be taxed on it at 0%. In order to qualify for this, you would have to be in the lowest two tax brackets. For 2018, Married Filing Jointly filers can have up to $77,199 in taxable income and still be taxed at 0% on capital gains. To put this into prospective, if your Social Security income was only $75,000 and you had a long term gain of $1,000,000 you would not have capital gains tax on the $1,000,000. ” – Chris Cicalese, CPA

 

“Don’t forget to set aside a percentage of your gains, whether short or long term, in a tax fund so the money is available when you file your returns.” – Rich Middleton, CPA

There are many factors that come into play when buying or selling an asset. Just make sure the tax implications are considered before you make the transaction. As always, your Alloy Silverstein accountant and advisor is here to help you with all of our tax planning needs. Contact us today to set up an appointment.

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