Wouldn’t it be nice to pocket all the profit you make from the sale of real estate or other assets, like stocks and bonds? Well, it doesn’t quite work that way since Uncle Sam wants his slice of the pie, which is where capital gains come into play. But if you don’t quite turn a profit and instead take a loss, you should understand you’ll be impacted as well from a tax perspective.
Keep reading to learn more about important tax implications for capital gains and losses.
A Closer Look at Capital Gains and Losses
Before diving into the tax implications for capital gains and losses, you should know what items are deemed as capital assets by the IRS. According to the IRS, capital assets include homes, cars, stocks, bonds, and other forms of investment property. You should also know that capital assets can be “inherited property or property someone owns for personal use as an investment,” the IRS adds.
Quick Note: Items used in your business, like inventory, cannot be classified as capital assets.
Some terms you should know:
- Cost Basis – The cost basis is the amount the seller paid when acquiring the capital asset. This figure should also factor in any applicable taxes and fees incurred by the purchaser at the time of sale.
- Capital Gains – A capital gain is generated when a capital asset is sold for a profit.
- Capital Losses – A capital loss is generated when you lose money on the sale of a capital asset.
You should also know that the IRS classifies capital gains as losses in the following manner:
- Short-Term – Capital gain or loss on an asset held by the taxpayer for one year (365 days) or less
- Long-Term – Capital gain or loss on an asset held by the taxpayer for over one year (over 365 days)
What if the taxpayer sells multiple capital assets over the course of the year, with some sales resulting and capital gains and others as capital losses? The rules are as follows:
- Net Long-Term Capital Gain – This is the end result if the long-term gains exceed the long-term losses
- Net Capital Gain – This is the end result if the net long-term capital gain exceeds the net short-term capital loss
The Formula for Calculating Capital Gains and Losses
You can compute the capital gain or loss using the following formula:
Sales Price – Cost Basis = Capital Gain or Loss
Tax Implications for Capital Gains
Key considerations when computing the tax liability for capital assets include:
- the holding period
- date of purchase and purchase price
- date of sale and sales price
But why does any of this matter? The holding period determines the rate you’re taxed at, and you’ll need to know the proper amount that should be used in the calculation.
The tax liability for short-term capital gains is identical to that of the ordinary income tax rate, which is determined by the taxpayer’s income from wages and self-employment income.
But if you have long-term capital gains, the tax brackets are as follows:
|Tax Bracket||Single||Married Filing Jointly||Head of Household|
|0%||$0 to $39,375||$0 to $78,750||$0 to $52,750|
|15%||$39,376 to $434,550||$78,751 to $488,850||$52,751 to $461,700|
|20%||$434,551 +||$488,851 +||$461,701 +|
Quick Note: As evidenced by the tax brackets for both short-term and long-term capital gains, the tax liability for the latter is substantially lower. Therefore, it may be in your best interest to retain capital assets for over 365 days to derive the maximum cost-savings with regard to taxation.
Some Important Considerations
Net Investment Income Tax
If you’re an investor with a modified adjusted gross income over $200,000 ($250,000 for Married Filing Jointly and $125,000 for MFS), you may be subject to an additional tax liability of 3.8 percent of the smaller of:
- The amount your MAGI is greater than $200,000, $250,000 or $125,000 (based on filing status)
- Your net investment income
To learn more about this rule, refer to this guide from the IRS.
Sale of Antique or Collectibles
The tax rules on capital gains for the sale of antiques or collectibles are as follows:
- Ordinary income tax rates apply to antiques or collectibles held for a year or less
- A capital gains tax rate of 28 percent applies to antiques or collectibles held for over a year
Sale of Your Primary Residence
If you sell your home and turn a profit, the IRS gives you a break on the first $250,000 ($500,000). To qualify for the exclusion, you must meet the following criteria:
- Retained ownership of the home for the past five years
- Resided in the residence for at least two of the five years
- Not used the exclusion within the past two years on another home
But if your earnings exceed this amount or you don’t qualify for this exclusion, you’ll be subject to capital gains taxes.
To learn more about capital gains taxes on the sale of primary residences, refer to IRS Publication 523.
Tax Implications for Capital Losses
While you won’t be subject to taxation on capital assets that sell for a loss, you may be able to apply a portion or all of the losses incurred to help offset capital gains. But you can only do so if the capital losses exceed capital gains, to the tune of $3,000 per year ($1,500 if married filing separately).
Wondering how to handle capital losses that exceed $3,000? Fortunately, the IRS allows you to carry the aggregate total over into subsequent tax years.
Considering selling off stocks that aren’t performing as expected to set yourself up for a generous capital loss deduction. While you may be able to pull it off, here’s the catch: if you have ulterior motives and you’re only doing so to save yourself some money, you may want to think again.
Here’s why: the IRS prohibits investors from claiming capital losses on if they sell off stocks and acquiring the same or very similar stocks within a 30-day window that precedes or follows the sale.
You can learn more about the wash sale rule by checking out IRS Publication 550.
Deductible vs Nondeductible Losses
Capital loss deductions associated with investment property sales are permitted, but losses sustained on personal-use property sales are prohibited
Forms You’ll Need When Filing
If you incurred a capital gain or loss during the period you’re filing for, you’ll want to include the following forms:
The Bottom Line
If you have questions about how capital gains and losses work or need assistance preparing your return, solicit the help of a reputable tax preparer or Certified Public Accountant (CPA).