If you make a profit on something you sell, you may be subject to capital gains tax.Capital gains taxes are levied on income from the sale of assets instead of wages.Capital gains tax is only applied to a small percentage of Americans, so it's important to know about it if you realize a large profit from the sale of an asset.
Step 1: Start at square one.
A capital gains tax is a tax on the profits from the sale of an asset.An asset could be a home, a piece of land, stocks, bonds, collectibles or a trademark.Capital is money and gains is profit.Most people's income comes from their wages, which is what ordinary income tax covers.Capital gains tax and income tax are both taxes on wages.
Step 2: Do capital gains taxes apply to you?
Most people who derive most of their income from wages don't make enough money from the sale of assets for the capital gains tax.For one reason or another, some forms of income derived from the sale of assets are not subject to the capital gains tax.Capital gains on assets less than a year are subject to ordinary income tax rates.A day trader who buys stocks and resells them quickly is subject to the ordinary income tax rate as is an heir who immediately sells a piece of property.If the profits from the sale of your asset are less than $37,650 (or $75,300 for a married filer) and the asset sold is something other than a collectible or small business stock, you pay no tax at all.Comic books, Beanie Babies, and other collectibles are items that people collect and sell.
Step 3: Take your losses into account.
If you have made more from the sale of an asset than the minimums, you'll need to factor in your capital losses in order to get a clear picture of your gains.It's easy to calculate the net gain or loss.Take your losses and subtract them from your gains.You won't be subject to tax if you have lost more than you've gained.If the loss did not stem from the sale of personal property, you can deduct up to $3000 per year from your income.You had a net loss in the year.Even if you had net gains in the two previous years, you can still deduct $3,000 from your income.
Step 4: Determine which tax brackets you fall into.
If you've made more than the minimum after calculating your net gain, you need to decide which tax brackets to fall into.You can find the tax brackets for single and married taxpayers at theschwab.com.The tax rate for collectibles is different than for conventional capital gains.Capital gains from collectible are taxed at the same rate as income from wages, with a cap of 28%.
Step 5: You can claim the personal residence exemption.
Most people won't pay federal capital gains tax on the sale of their home because of the personal residence exemption.If the filer has lived in the home for at least two years, no tax is applied on the sale of a personal residence where the capital gain is less than $250,000.If the filer had to sell the home due to military service, health, or an unforeseen change in employment, they don't have to meet the two year residence rule.
Step 6: Sell versus purchase.
A versus purchase is a fancy way of saying that you can pick which stock you want to sell.Changes to the amount of capital gains you have to report on your tax return can be made.You bought 10 shares of stock in the company for $100 in January and another 10 in June for a total of twenty shares.The value of the stock increased by 10% in the first six months.By the end of the year, your total purchase of twenty shares has increased in value by 10%, after you bought ten shares for $110 in June.The capital gains on the first and second lots will be $21 and $11, respectively.If you want to sell ten shares at the end of the year, you can specify that you're selling the shares in June in order to minimize tax.
Step 7: There is a like-kind exchange.
Tax deferral doesn't stop you from paying tax, but it delays it.You can defer your taxes with a like-kind exchange if you have reason to believe that a capital gain will be less in the future.A like-kind exchange occurs when one type of asset is sold and the money from the sale is immediately used to purchase another asset.Section 1031 exchanges are usually named after the section of the tax code which provides for them.Real or personal investment property are only covered under a 1031 exchange.Personal residences are not covered.The replacement property must be found within 45 days and the purchase completed within 180 days.The IRS requires a detailed description of the transaction to be recorded on Form 8824, which can be found at www.irs.gov.
Step 8: Put together a trust.
Setting up a Charitable Remainder Trust is a well established method of avoiding capital gains taxes.If an investor has enough assets, it is possible to avoid capital gains taxes.An expired trust is often the end of the investor's life.Assets are transferred to the trust by the investor.An annuity is paid to the investor from the sale of the assets.Whatever is left after the trust is given to a charity of the investor's choice.The original assets transferred to the trust must go to charity or other assets will be seized to make up the difference.There are two drawbacks to setting up a trust.The investor's heirs will not be able to inherit any assets transferred to the trust.Since the investor must have enough assets to set up an annuity payment funded from the sale of the assets, they are usually reserved for the very wealthy.
Step 9: The assets should be given away.
The truth is that giving assets away trades a 15% or 20% loss for a total loss.Capital gains tax can be avoided by giving assets to a family member or trusted associate.If your total capital gains for the year are more than half a million dollars, you would be in the highest tax brackets.If you give your five children equal shares of $500,000, the capital gains tax will be reduced from $100,000 to $75,000.If you give large sums of money, you may be subject to gift tax.If you give your gifts strategically, you can avoid gift tax.Large sums of money or high valued property will not be taxed.
Step 10: Think about the taxes that are paid on capital gains.
Since capital gains taxes are lower than wages, they reward people who make a living from the sale of assets.Since only assets which are held for more than a year are given preferential treatment, they encourage investors to target investments that will be productive over a longer period of time.People are encouraged to invest money in ventures that increase productivity.
Step 11: Capital gains taxes are a good way to discourage speculation.
Capital gains taxes discourage people from buying and selling assets quickly because they only give preferential tax treatment to long term capital gains.speculation is the quick buying and selling of assets.Gambling is more like speculation than investment.At which point the speculator will sell the asset, they are betting that the price will go up.An investor makes an educated guess that the asset they invest in will increase in value and not just in price.An investor invests their money in shares of a company they think will benefit the economy.In order to drive up the share price, the speculator buys shares of the company and immediately sells them off.
Step 12: Capital gains taxes are controversial.
A person has to have assets to sell in order to pay capital gains tax.You need money to buy assets.Capital gains tax rewards people who are already well off.A person making $37,000 in wages is subject to a 15% tax rate.It's not enough for a person to make $700 per week before taxes.A person who makes the same amount in capital gains must have enough money to buy and sell assets that net $37,000 in profit, and they pay less taxes on that income.