Capital Gains Tax

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Buy low, sell high, pay taxes. It's the American way. When an individual or a business buys an asset such as a stock, bond or piece of real estate, the difference between what the person or company paid for the asset and the final sale price is a capital gain. Taxes on capital gains can differ significantly from regular income taxes. In many cases, capital gains taxes are lower.

Basics of Capital Gains

Capital gains taxes are most commonly associated with the sale of stock. That said, capital gains taxes apply to a number of different types of assets, including bonds, real estate, precious coins, etc. Moreover, there are different rate schedules for different types of capital gains.

Capital gains and losses are classified as long-term or short-term. If the asset is held for less than a year, then any gain is taxed at the rate for regular income. Anything held for a period of more than one year is long-term and qualifies for lower capital gains rates.

The highest tax rate on a Net Capital Gain (long-term capital gain for the year is more than short-term gain for the year) is generally 15%. However, there are 3 exceptions to this rule.

  1. Taxable part of capital gain qualified small business stock is taxed at maximum rate of 25%.
  2. Net capital gain from selling collectibles such as baseball cards, coins, etc. is taxed at max. rate of 100%

Taxes and Withholdings for Capital Gains

Estimated Taxes - Any taxes not paid through withholdings may be subject to estimated taxes. Individuals owning a business, or receiving income such as Capital Gains may be subject to estimated taxes. In 2008, capital gains tax was reduced from 5% to zero after the new tax laws were passed. However, this DOES NOT mean that you do not have to pay taxes on your capital gains.

The general rules for estimated taxes are:

  • Expect to owe at least 1,000 in tax for 2008 minus W/H and credits
  • Expect W/H and credits to be less than the smaller of
    • 90% of tax on 2008 return OR
    • 100% of tax on 2007 return with ALL 12 months included

To better calculate your estimated tax, it is recommended that you visit the IRS website for more information regarding estimated taxes.

Investment Income/Expenses and Capital Gain Distributions

Capital gain distributions are basically dividends paid out through or credited to your account by mutual funds and Real Estate Investment Trusts (REITs). These will be located in box 2a of Form 1099-DIV that you recieve from a Mutual Fund company or REIT.

Example of Capital Gain Distribution of Common Stock

  • Suppose you own one share of common stock that you purchased on June 3, 2003 for $100.00.
  • The corporation declares a common stock dividend of 5% on June 30, 2007.
  • Fair market value at the time of purchase was declared at $200 and you were paid $10 for the fractional-share stock dividend plan at which the shares are not issued, but sold to you, and proceeds go to the shareholders.

You calculate the gain or loss as follows:

Fair Market Value of Old Stock....................$200.00
Fair Market Value of Stock Dividend (Cash)........+ 10.00 
Exact Amnt. of both combined equals...............$210.00
Cost of old stock after stock dividend 
(($200/$210)*$100))...............................$95.24 
Cost of stock dividend ((10/210)*100))............+ 4.76 
Total.............................................$100.00  
Cash Received.....................................$10.00 
Cost of stock dividend............................-4.76
Gain..............................................$5.24

Sales and Dispositions of Assets

To calculate whether you have a gain or loss on the sale of an asset, see whether or not the adjusted basis is more than the amount realized (LOSS) or amount realized is more than the adjusted basis (GAIN). An adjusted basis is the original cost plus certain additions and minus certain deductions. These certain deductions are things such as depreciation and casualty losses.

Keep in mind that in determining gain or loss, transferring property between owners results in additions to the adjusted basis of the property. For more information regarding FMV (Fair Market Value), Adjusted Basis, etc. see resources, listed below.

Since this gain was held for more than one year it is classified as a long-term capital gain and reported on the Form 1040 Schedule D.

Summary of Capital Gains Taxes

Capital Gains you are taxed on include:

  • Selling of any personal or investment purpose asset
  • Selling of real property
  • Selling of Common or Preferred Stocks
  • Investment income from stocks, bonds, mutual funds, REITs, etc.

Rates of Capital Gains for Individuals include:[3]

  • 5% rate - Very low income level needed for this tax break
  • 15% rate - Lower capital gains rate that applies to long-term investments
  • 25% rate - Rate applies to part of the gain selling selling real estate that depreciated and basically keeps you from getting a double tax break
  • 28% rate - Small business stock and collectibles for this rate
  • 0% rate for some - Google new capital gains rate for 2008 for more information on this rate
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