Of the many ways to lower your tax liability, tax-loss harvesting is among the more common - and the more complicated. No one likes to face a large tax bill in April. How to Lower Capital Gains Taxes With Tax-Loss Harvesting Photo credit: © iStock/banarfilardhi Others think the rate should be even lower than it is, so as to encourage the investment that helps drive the economy. Some say it should be taxed at a rate higher than the earned income tax rate, because it is money that people make without working, not from the sweat of their brow. The question of how to tax unearned income has become a political issue. It simply denotes that you earned it in a different way than through a typical salary. So in this case, "unearned" doesn't mean you don't deserve that money. Even if you're actively day trading on your laptop, the income you make from your investments is considered passive. It's money that you make from other money. Unearned income comes from interest, dividends and capital gains. Whether you own your own business or work part-time at the coffee shop down the street, the money you make is earned income. In the eyes of the IRS, these two forms of income are different and deserve different tax treatment.Įarned income is what you make from your job. Why the difference between the regular income tax and the tax on long-term capital gains at the federal level? It comes down to the difference between earned and unearned income. How Earned and Unearned Income Affect Capital Gains Photo credit: © iStock/samdiesel In plain English, that means you pay tax based on your profit. How much you owe in taxes - your tax liability - stems from the difference between the sale price of your asset and the basis you have in that asset. Basis is the amount you paid for an asset. To figure out the size of your capital gains, you need to know your basis. To recap: The amount you pay in federal capital gains taxes is based on the size of your gains, your federal income tax bracket and how long you have held on to the asset in question. The table below breaks down how much you will have to pay in long-term capital gains for tax year 2022 (which you will file in early 2023), based on your tax-filing status and income: That's why some high net worth Americans don't pay as much in taxes as you might expect. Even taxpayers in the top income tax bracket pay long-term capital gains rates that are nearly half of their income tax rates. They're taxed at lower rates than short-term capital gains.ĭepending on your regular income tax bracket, your tax rate for long-term capital gains could be as low as 0%. Long-term capital gains are gains on assets you hold for more than one year. The tax rate you pay on your capital gains depends in part on how long you hold the asset before selling. The IRS taxes capital gains at the federal level and some states also tax capital gains at the state level. The profit you make when you sell your stock (and other similar assets, like real estate) is equal to your capital gain on the sale. You decide you want to sell your stock and capitalize on the increase in value. Let's say you buy some stock for a low price and after a certain period of time the value of that stock has risen substantially. To find a financial advisor who serves your area, try our free online matching tool. But you should also note that you might be able to lower your capital gains taxes with the sale of an investment that is losing money (more on tax-harvesting below).Ī financial advisor can help you manage your investment portfolio. But you only have to pay capital gains taxes after selling an investment – the money you make from an investment is subject to taxation at the federal and state levels. These include short-term gains for investments held and sold in less than one year and long-term gains for those held and sold in a period that is over a year.Ĭapital gains and losses will either increase or decrease the value of your investment. When you have built a low-cost, diversified portfolio and the assets being held are worth more than what you paid for them, you might consider selling some of those assets to realize those capital gains.Ĭapital gains are defined as the profits that you make when you sell investments like stocks or real estate. Or you're preparing for when they do in the future. If you're reading about capital gains, it probably means your investments have performed well. What Are Capital Gains? Photo credit: © iStock/James Brey
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