In selling an investment like a bond, ETF, real estate, or stock, the net profit is usually taxed as a capital gain.
Capital gain varies and comes in two types majorly. It could be short term or long term. The kind that applies to you will be a factor of the duration of your investments. It is often recommended to keep a year in mind. Owning the investment or a share of the investment for a year or less qualifies you for short term capital gains. If you, however, hold the investment for long, even if it is a day more than a year, it will be classified as a long term capital gain.
We must explore the tax that comes with long term capital gains. With long term capital gains, you can qualify for favorable tax treatments. The implication is that what you will pay as the tax will reduce on long term capital gains compared to other forms of income like your salary.
The long term capital gain is usually a factor of the marital status and your taxable income. It is generally taxed at the rate of 0%, 15% or 20%
If your income is less than $40,000 in 2020 as an unmarried person, zero percent capital gain rate will benefit you. Many unmarried people usually fall in the 15% capital gains rate. This applies to income between $40,001 and $441,500. With income above $441,500, however, the long term capital gain rate is 20%
This figure, however, differs and is higher for married couples having a joint filing. The con here, however, is that most usually get hit with the marriage tax penalty. The table below sheds light on the capital gain tax rate for different income categories of married folks.
Income | Capital Gain Tax Rate |
$80,000 and below | 0% |
$80,001 and $496,600 | 15% |
$496,600 and above | 20% |
People with higher incomes could experience either extra taxes or lost tax deductions. For instance, taxpayers earning above $250,000 usually pay an additional 3.8% as net-investment surtax. It does not matter if the capital gains are short term or long term; this Medicare Surtax can be applied to all investments.
In taxing short term capital gains, it falls in the category of ordinary income. Any investment you have for less than a year, the profit or loss will be classified as short terms of capital gains or losses. The bright side, however, is that you can deduct up to $3,000 of short term losses against regular income every year. This is a terrific chance to reduce your taxes with tax-loss harvesting.
If you make any gains in your retirement accounts like Traditional IRA, 401(K), 403(b), it will likely be tax-deferred. This is because it is only when you withdraw that you will be taxed on your retirement account.
Even with Roth IRA or Roth 401(k), you could have tax-free withdrawal assuming you follow the rules set by the Internal Revenue Service (IRS).
In deciding whether to sell or retain an investment, taxes should not be the primary judging factor. With this in mind, how long you have held the investment matters. Besides, try and stay away from short-term capital gains. According to the IRS tax code, it pays you to try and maintain investment for a year, at least. This is because the long term capital gain rates will be lower than your earned income tax rates.
Excessive buying and selling is not even a good idea as it subjects you to unnecessary tax. As an investor or retired saver, buying and selling constantly might not come with any specific advantage. Your priority should be investing and channeling new contributions to your account.
Valderas Financial Solutions LLC