Capital gains taxes occur when you sell an asset, such as your home or stocks. It is paid to both the state and federal governments. The government collects a percentage tax on Profit or gain of assets while they are in your possession.
As you think about tax season, understand that capital gains taxes were cut in 2017 and remain at the lowest rate in decades as of this writing. The average taxpayer pays a 15% federal tax on long-term capital gains, which is defined as gain on assets you have owned for more than one year.
A small number of people, with income over $445,850, pay a 20% federal tax. There are exceptions where capital gains result in a higher rate, but they apply to small company stocks and collectible sales. More information is available from the IRS in Topic 409, Capital Gains and Losses.
Learn more: Investor Alert: The 2024 capital gains tax rules are here
The bottom line is that capital gains tax is not something to worry about, but something to plan for as you prepare to sell an asset.
Here are three steps to make capital gains easier in your life:
1. Learn the language
When you buy a house or stock, the price you pay for it is called the… Basis of this item. Knowing the basics will make your life easier when you go to sell any property or investment.
The property may be acquired Step up Based on if you own it in joint name and become sole owner through death. The value of an estate typically increases over time, meaning that half of your estate had the original value and the other half is the value that was passed on to you after your co-owner died.
This step also applies to inherited assets. All property receives an increase in cost basis to the new owner's current value after death. This applies to your home, funds in your brokerage account, and other assets. If others inherit your property, they will receive an increase in value, whether they are relatives or friends.
In addition, understand whether the property has been retained Short-term or long-term. The profit is calculated based on the length of time you have owned the property. Anything less than a year is considered short-term. Longer than a year is a long-term gain calculated at a lower rate.
If you're thinking about profiting from your real estate investment without handing over all your hard-earned gains to Uncle Sam, you need to be strategic. Here are some options to consider.
2. Keep good records
Capital gains rules apply to investments such as stocks, cryptocurrencies, mutual funds, and certain types of life insurance. In the case of these investments, the investment or insurance company keeps the records on your behalf.
At the end of the year, businesses send out a Form 1099. On the 1099, only the proceeds are reported. You should ask at the time of sale what you paid for it (if not written down on the paperwork), any other payments you may have made such as life insurance premiums and account for any investment fees related to the sale. This will give you the current basis of the property and allow you to calculate expected taxes.
For more information, read IRS Publication 550, Investment Income and Expenses.
Capital gains taxes occur when you sell your homestead, but you can prepare now even in this inflated home price environment. Home improvements over the course of your ownership add to the foundation of your home.
Save yourself stress and taxes in the future by keeping a record of home improvement costs. Even if you're not selling this year, organizing this paperwork now so you can keep these receipts and information separate will save you hassle in future years.
Keeping good records can increase a home's cost basis for tax purposes, saving you from paying unnecessary capital gains taxes if you sell. A new kitchen, bathroom, outdoor patios and lights – anything beyond paint and maintenance. Here's the IRS's full list of what qualifies. When you sell your home, provide these numbers to your accountant.
Warning: Don't increase your home's cost basis by making improvements you don't need or want. There is no guarantee that expenses will be reimbursed at the sale price, no matter what your real estate agent says.
You can add a cost basis to a cost Improvements You made it to the property. These are tangible upgrades such as landscaping, or building additions that will be sold with the property. No maintenance over the years mowing or painting to keep the property in good condition.
See the list below for clarity and read IRS Publication 523 (2022), Selling Your Home. Next, review your records and pull out your calculator to find your full basis for tax purposes when filing for the 2023 tax year.
Examples of improvements include:
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Heating system.
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Central air conditioning or humidifier.
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Central vacuum.
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Wired security system.
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Lawn sprinkler system.
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Exterior storm windows or doors.
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Pipe and duct works.
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drainage system.
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Water heater.
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Embedded appliances.
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Kitchen update.
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Wall to wall carpets.
Your basis when selling the property will be the cost basis when you purchased the property plus the cost of the improvements. Remember, you may be eligible for the $250,000 capital gains exclusion ($500,000 if you are married) if this has been your primary home for the past five years and you meet other requirements. As a result, your capital gains tax may not be as much, especially when improvements to your home are included. More information is available in IRS Publication 523, Selling Your Home – Internal Revenue Service.
People have put off selling their homes because they fear their capital gains will exceed the exemption amount. If you've been delaying the sale of a very large home due to gains and fear of taxes, there's something you can do now to prepare.
3. Be prepared for taxes
Once you know the basis of your property and its selling price, the difference is considered a capital gain. Use this number to calculate the property tax. Unless you're in a state that doesn't impose a capital gains tax, such as Florida, New Hampshire, and Wyoming, be sure to save 25% of your earnings for state and federal taxes.
This allocation is crucial so that you have the money to pay the appropriate tax on April 15 of the following year. The best way to do this is to have a separate savings account or short-term certificate of deposit. This way, the separate funds are clearer for tax purposes and less tempting to dip into during the year.
read the following: 2024 tax season: When can taxpayers start filing returns and when are taxes due?
If all of this sounds overwhelming or confusing, consult a tax professional who does it every day and can simplify your life even when it's not tax season. Capital gains are manageable if you are not shocked by lack of knowledge.
CD Moriarty, CFP, is a financial speaker, writer, and coach based in Vermont. They can be found at MoneyPeace.com.
This article is reprinted with permission from NextAvenue.org©2024 Twin Cities Public Television, Inc. all rights are save.
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