In order to effectively plan to minimize capital gain taxes, a basic understanding of the capital gain rules is necessary, especially those regarding capital gain rates and capital losses.
Current capital gain rates used to compute a taxpayer’s tax liability on the sale of securities and other investment property consists of the following:
- Ordinary income tax rates are applied to the gain from the sale of assets held less than one year (i.e., either 10%, 15%, 25%, 28%, 33%, 35%, or 39.6%);
- 28% rate is the maximum rate applied to the gain from the sale of collectibles held more than one year and the taxable portion of the gain from the sale of qualified small business stock;
- 25% rate is the maximum rate applied to un-recaptured Section 1250 gains from the sale of depreciable real property held more than one year (an exception exists for taxpayers with an ordinary rate less than 25%);
- 20% rate is applied to long-term capital gains (other than those included in either the 28% or 25% rate classes) when the taxpayer’s taxable income exceeds $406,750 for single, $432,200 for head of household, $457,600 for married filing joint, or $228,800 for married filing separately;
- 15% rate is applied to the gain from the sale of assets held more than one year when the taxpayer’s taxable income does not exceed the income thresholds described under the 20% rate; and
- 0% rate is applied to the gain from the sale of assets held more than one year when the taxpayer’s ordinary income tax rate is either 10% or 15%.
Capital losses can be used to offset capital gains, and to the extent there is an excess loss, up to $3,000 can be deducted against ordinary income each year. Any remaining loss is carried forward to future tax years to reduce future capital gains.
When a taxpayer has both capital gains and losses that are subject to more than one of the tax rates described above, the capital gains and losses must first be grouped into long-term and short-term groups, with the long-term group further grouped by the capital gain rate groups. Once grouped, the losses are applied against capital gains using the following ordering rules:
- A net loss in a long-term group first offsets gains in the highest long-term tax rate group;
- A net short-term capital loss first offsets net gain from the highest long-term rate group before being applied to the other long-term rate groups;
- A long-term capital loss carryover offsets long-term capital gains first, beginning with the highest long-term capital gain rate group; and
- A short-term capital loss carryover offsets net short-term capital gain first with any remaining carryover applied to the long-term gains, beginning with the highest long-term capital gains rate group.
Taxpayer’s could minimize their capital gain tax by any or a combination of all of the following:
- Reducing their taxable income (particularly if they are hovering near the threshold limits);
- Gifting appreciated capital gain property to donees expected to be subject to a lower long-term capital gain rate; and
- Timing the sale of securities so they either meet the long-term holding period or recognize capital losses that can be used to offset gains.
Contact Flexible Accounting Services of the Triangle and let us assist you in creating a plan that will minimize your capital gain taxes.