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Investments like stocks are subject to tax. They are taxed in varying percentages based on the status of the investor and categorized under capital gains. Capital gains are taxed as income and are taxed based on category. A long-term capital gain is taxed differently from a short-term capital gain.
What are Capital gains?
When an investment is sold, a capital gain is simply the profit earned. An investor can determine the capital gain generated by a sale simply by subtracting the original purchase price from the sale price.
For example: When an investor purchases $1,000 worth of stocks and sells them for $5,000, their capital gain is $4,000.
Remember that capital gains taxes are due only after an asset is sold and a profit is realized. In the example above, if the investor had held onto their stocks instead of selling, the profits would not have been realized and there would be no taxes to pay.
Capital gains can be short-term or long-term. Short-term capital gains are made when an asset is sold after being held for less than a year. A long-term capital gain is the profit made from the sale of an asset after it has been held for more than one year.
Helpful Resource: Short term capital gains vs Long term capital gains tax
Remember that capital gains aren't just profits from selling stocks. Likewise, a home sale, business sale or vehicle sale can result in capital gains.
Long-Term Capital Gains
The long-term capital gain is preferred by investors since lesser tax is charged. A long-term capital gain is a profit earned from selling an investment after keeping it for a year or more. At times, some investors with low earnings may be exempted from tax while high earners get subjected to about 20% which is considered reasonable compared to the usual higher rates charged on normal income.
Long-Term Capital Gains Tax Rates by Income
| For Singles | For Married Couples | ||
|---|---|---|---|
| Income | Tax Rate | Income | Tax Rate |
| Up to $9525 | 0% | Up to $19,050 | 0% |
| $9526 - $38,600 | 0% | $19,051 - $77,200 | 0% |
| $38,601 - $38,700 | 15% | $77,201 - $77,400 | 15% |
| $38,701 - $82,500 | 15% | $77,401 - $165,000 | 15% |
| $82,501 - $157,500 | 15% | $165,001 - $315,000 | 15% |
| $157,501 - $200,000 | 15% | $315,001 - $400,000 | 15% |
| $200,001 - $425,800 | 15% | $400,001 - $479,000 | 15% |
| $425,801 - $500,000 | 20% | $479,001 - $600,000 | 20% |
| $500,000 + | 20% | $600,000 + | 20% |
Short-Term capital gains
Short-term capital gains are profits from investments like stocks sold in less than a year. The short-term capital gain is taxed as usual income; the same way income from work is taxed.
The difference between the two approaches is why stock investors prefer to keep their investments for long to avoid normal income tax but rather enjoy reduced charges on capital gains.
Short-Term Capital Gains Tax Rates by Income
| For Singles | For Married Couples | ||
|---|---|---|---|
| Income | Tax Rate | Income | Tax Rate |
| Up to $9525 | 10% | Up to $19,050 | 10% |
| $9526 - $38,600 | 12% | $19,051 - $77,200 | 12% |
| $38,601 - $38,700 | 12% | $77,201 - $77,400 | 12% |
| $38,701 - $82,500 | 22% | $77,401 - $165,000 | 22% |
| $82,501 - $157,500 | 24% | $165,001 - $315,000 | 24% |
| $157,501 - $200,000 | 32% | $315,001 - $400,000 | 32% |
| $200,001 - $425,800 | 35% | $400,001 - $479,000 | 35% |
| $425,801 - $500,000 | 35% | $479,001 - $600,000 | 35% |
| $500,000 + | 37% | $600,000 + | 37% |
How to Pay Stock Taxes
Payment of taxes on stocks is plain and simple. Most times, the investor need not keep tabs on the tax record. Usually, tax law obligates investment companies to take note of each investor's capital gains and therefore get duly charged. Most of these firms will require each investor to fill the 1099 tax forms in a bid to document the annual incomes of all investors.
Once this is filled, you can be assured of proper tax documentation and charges without having to learn the process. However, it's imperative to work with an account to carefully have the tax report interpreted as the investment company will issue the report to each investor. With the help of a professional, you can successfully pay your tax without any complications.
Can I avoid taxes on stock?
To benefit from the stock market, it's impossible to avoid paying taxes on capital gains. The system makes it impossible to legally evade taxes on stock, regardless, minimizing the tax charge is feasible.
Minimizing capital gain/ stock taxes using the following:
Retirement Accounts
Investment in a taxed retirement account is exempted from capital gain charges. This means no matter how huge your capital gains are, you will not get taxed. However, keep in mind that you'll get taxed for every penny withdrawn from the retirement account.
Using a Roth Account
Since a Roth IRA account is taxed for every money contributed in them, the user of such an account is exempted from withdrawal taxes. In an investment, as long as about 60% of the funds in an IRA or 401k account is contributed for at least five years, capital gain linked to it is not charged; both as an earning and upon withdrawals.
Tax-loss Harvesting
Tax-loss harvesting is another avenue of offsetting or minimizing stock taxes. When the going gets tough and an investor who bought low to sell high losses due to a decline, the loss can be a consolation. The fact is, losing is part of the process of investment -- it's inevitable -- as some profit, some lose. If you run at a loss, tax harvesting can be beneficial for you, allowing you to deduct capital losses from capital gains. Therefore, if you made a certain percentage loss on a stock investment, it minimizes your taxable income.
Managing Taxes on Your Stocks
Taxes are due when an investor sells stock and makes a profit known as a capital gain. Depending on their tax bracket and how long they owned the asset, they'll have to pay the IRS a certain amount.
Although short-term capital gains are taxed as regular income by the IRS, long-term capital gains are taxed at 0%, 15% or 20% depending on the taxpayer's tax bracket. The net investment income tax is an additional 3.8% tax on certain investment income for high-income earners.
Overall, consulting a tax expert will make a world of difference in your investment process. A professional provides information on tax filing, how to minimize taxed gains, and strategies of stock investment that will be helpful for you.
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