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What is capital gain tax?
If you have sold a property that you were previously the owner of, or if you've cashed out on an investment made by you and have made a profit from the transfer of capital, you are required to pay capital gain tax. Capital gain tax refers to the levy on the profit made by an investor upon the sale of an asset, including shares, bonds, businesses, or real estate. Different capital gain tax rates apply to other tax brackets and profits made upon purchase. Capital gains are also of several types, depending on how long the investment is being held. If the asset is sold before the owner has owned it for a year, the profits acquired are referred to as short-term capital gain, and the ones held for more than a year are referred to as long-term capital gain. The long-term capital gain tax rates are lower than the short-term capital gain tax rates. That is why investors prefer to hold on to their investments for as long as possible.
Different types of capital gains:
Short-term capital gains: If the owner cashes out on an investment before completing a year of ownership, the profits from the transaction are referred to as short-term gains. These gains are generally taxed at the same tax rate as the rate at which the regular income of a taxpayer is taxed, which leads to a higher tax bill. An example of a short-term capital gain would be the profits made by selling off equity stocks at a profit within a year.
Long-Term capital gains: If the owner has held on to an asset for more than a year before selling it off and making a profit, the profits are referred to as long-term capital gains. These capital gains are taxed at a much lower rate, and the capital gains tax rates for this category have been explained below. An apt example of long-term capital gains would be the profits made by selling a real estate property that has been under one’s ownership for more than a year.
How capital Gains are taxed
Capital gains are only taxed once they have been "realized." They are only realized once an asset is sold at a profit. The profit made by the taxpayer is taxed at the capital gain tax rate for the relevant year. These rates vary along with the tax brackets for each year. The capital gain for an individual is calculated by subtracting the asset's original cost from the amount it was sold for. However, in addition to the profits made, other factors also come into play, including the duration of ownership of the asset, any amount of money spent on holding that asset, the tax bracket you fall under, and your tax filing status.
What is the capital gain tax rate, and do these apply to specific tax brackets?
The Capital Gains Tax Rates have not changed in recent years. However, the tax brackets have substantially been elevated, which might help some taxpayers lower their tax bills as they fall into a lower tax bracket for 2022. The long-term capital gains tax rates are charged at three rates, and this tax rate depends upon the taxpayer's taxable income for the year. The table below shows the long-term capital gains tax 2022 rates for different tax brackets:
|
Tax filing status/Rate of tax |
0% |
15% |
20% |
|
Single |
≤$41,675 |
$41,676 - $459,750 |
>$459,750 |
|
Jointly |
≤$83,350 |
$83,351-$517,200 |
>517,200 |
|
Married, but filing taxes separately. |
≤41,675 |
$41,676 - $258,600 |
>$258,600 |
|
Head of Household |
≤$55,800 |
$55,801 - $488,500 |
>$488,500 |
Table: Long-term capital gains tax rates
Let us understand the tax structure with a real-world example. Suppose that Mr. Willson makes $260,000 a year and he files his taxes jointly. He would have to pay a 15% tax on his capital gains for 2022, as he falls in the 15% tax bracket defined by his income.
However, the Short Term Capital Gains are not changed at the same rate and are treated as if they were a salary or a wage. Therefore, short-term capital gains tax is calculated by adding those gains to the taxpayer's earned income on Form 1040. Dividends received by an asset owned by a taxpayer for more than a year are also treated as short-term capital gains.
Exceptions and special capital gains rates:
- Collectibles: Art, jewelry, antiques, and precious metals are categorized as collectibles, and they are taxed at 28%. The capital gain tax rates on collectibles are not dependent on your income.
- Real estate occupied by the owner: In case a taxpayer is about to sell their principal residence, an individual's $250,000 worth of capital gains from the sale of their home is excluded ($500,000 if they are married and are filing jointly). However, the owner must have lived in this house for more than two years.
- Exceptions on investments: A taxpayer might be subjected to another levy called the net investment income tax, which imposes an extra 3.8% tax upon the income from your investments. This tax applies if your Modified AGI is more than $250,000 if you file your taxes jointly, $200,000 if you're single, or if you file taxes online as the head of the household. However, if you are married but file taxes separately, the limit would be $112,500.
Tax saving strategies
The overall tax returns a taxpayer obtains are often affected by the capital gain tax rates that apply to taxpayers according to their income. However, there are ways of lowering your capital gain taxes, which are discussed as follows:
- Consider using capital losses: If you use the capital losses incurred throughout the year to offset your capital gains, you will have to pay a lower tax bill. If your capital losses amount to up to $3,000 more than the gains, you can claim the difference against your income. Suppose you made a capital gain of $4,000 but incurred a capital loss of $15,000. The $4,000 capital gain will be balanced against the capital losses, and the remaining $11,000 will be used to lower your taxable income by $3,000. The remaining $8,000 of capital losses to be claimed can be carried over to reduce your taxable income next year, and so on.
- Obey the wash-sale rule: If a taxpayer sells a stock share at a loss to get tax advantages and repurchases them within 30 days, they might run afoul of the wash-sale rule. The wash-sale rule states that if you sell a security, such as a stock, at a loss and buy a substantially similar amount of the same securities back within 30 days, you will not be able to list the loss you have incurred as a capital loss on your tax return.
- Contribute to tax-advantaged retirement plans: Leveraging retirement accounts allows taxpayers to delay capital gains tax payments. For example, the retirement contribution is tax-exempt if a taxpayer contributes to a 401K plan. This tax-exempt contribution has a high growth rate as well.
Changes in capital gain tax rates in recent years
The tax percentages have remained the same. However, the tax brackets have increased because of inflation, implying that some people might be entitled to lower tax bills while making the same amount of money.
How to report capital gain tax?
If you want to report capital losses or gains, you must inform them on Form 1040 and Schedule D, Capitals Losses and Gains. Once this is done, the information regarding the same is transferred to the 7th Line of Form 1040. It is suggested that you file taxes online because the processing of e-filed tax returns is quicker, and they save the hassle of buying so many forms and posting them via mail. Form 1040 requires taxpayers to report all taxable income and mention expenses and dividends as tax deductions and credits. For a taxpayer to accurately file taxes online, a lot of time would go into tax planning and filing, which can be a problem for taxpayers who handle a lot of time-taking responsibilities.
Sourcing help from a tax accounting firm would be the best choice for such individuals, as letting professional tax preparers handle their tax affairs ensures timely, error-free, and hassle-free filing of taxes. NSKT Global specializes in tax strategization, and the tax professionals working for the company are well-versed in ways of lowering their clients' tax bills. Click here to land on the official NSKT Global homepage, and find out how you can benefit from the services offered by the company, along with the pricing for the same! Book an appointment with an expert tax consultant, and sign up for the affordable tax-related services NSKT Global provides!
