There are many sophisticated investment and tax strategies for individuals out there.  This ain’t one of them.  This is just plain tax information, what you need to know about your stock transactions and how they affect your tax return.

 

First—some definitions:

If you sell stock and make money—that’s a capital gain.

If you sell stock and lose money—that’s a capital loss.  (I told you we were doing the basics.)

Short term—means you held the stocks for one year or less.

Long term—means that you held the stocks for over one year.

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Here’s how they affect your taxes:

 

1. Short-term capital gains–are taxed at your ordinary income rate which could be as high as 35%.

 

2. Long-term capital gains are taxed at rates of up to 15%.  If your regular tax rate is 15% or less, then your long-term capital gains tax rate is zero.  (Zero is a very nice tax rate if you can get it!)

 

3. If your personal capital losses are more than your capital gains, you can deduct up to $3,000 of losses against your other income (like your wages).  The remaining losses will carry forward to offset against your capital gains in the future.  If you have no capital gains in the future—you deduct another $3,000 against your other income and keep carrying it forward.  You can do that for several years if necessary.

 

For example:  let’s say your income is $50,000 a year (every year, no raises, life is boring) and you have a $10,000 capital loss.  This year, your adjusted gross income (AGI) would be $47,000 and you’d have a $7,000 capital loss carry forward.  (You took the $50,000 of income, subtracted $3,000 of the capital loss from the $10,000 and you have $7,000 left over for next year.)  Next year your AGI would be $47,000 again and you’d have a $4,000 capital loss carry forward.  After that, AGI would be $47,000 with a $1,000 carry forward.  And finally in year 4 you’d have an AGI of $49,000 with no carry forward.    Do you see how that works?

 

4.  Long-term gains and losses are offset before being applied to short-term gains and losses.  That means that there’s an ordering rule as to how the gains and losses are offset.

 

For example:  let’s say you have $500 short term gain, $500 long term gain, and a $500 long term loss and you’re in the 35% tax bracket.  The $500 long term loss will go against the long term gain first which would have only cost you $75 (15% * $500) in taxes.  You can’t make it offset the short term gain which would cost you $175 (35% * $500) in taxes.  My Dad would say, “No cherry picking.”

 

But—if you only had the $500 short term gain and the $500 long term loss with no long term gain in there, then you can offset the short term gain with the long term loss.

 

5. Selling a mutual fund is treated the same way as selling an individual stock on your tax return.  Selling 500 shares of Vanguard Fund is treated the same as selling 500 shares of Coca Cola as far as the IRS is concerned.  It still has to be reported.

 

6. Finally, watch out for something called “wash sales”.  That’s where you sell a stock at a loss and buy it back again within 30 days, or buy another stock that is essentially the same like Coke and Pepsi.  Let’s say you sell 50 shares of Coke on October 17 for a loss of $100 but you then buy 50 shares of Pepsi on November 3^rd—you won’t get to claim that loss on your tax return.

 

Don’t forget, if you get a statement from your broker with stock transactions at tax time, you must report them on your tax return, even if you didn’t make any profit at all.  If you don’t report it, you can be certain that the IRS will send you a notice about it.