Different rates of taxes are imposed by the U.S. Government on different kinds of income. Capital gains like profits arising from selling stock held over a prolonged period are made subject to more favorable rates of taxation compared to interest income or salary. However, you cannot expect equal treatment for all capital gains as the tax rate varies drastically between long-term and short-term gains. This makes it imperative for investors to understand capital gains tax rates in detail for proper tax computation.
Capital gain refers to the profit made from the sale of an asset like cars, businesses, boats, lands, and investment securities like bonds and stocks. Assesses become liable to taxation on selling any of these assets from which a capital gain or loss might arise and has to be reported to the IRS. The treatment of capital gains and losses depends on the holding period of the particular asset. Profits arising from selling assets held for either 12 months or less are treated as short-term capital gains whereas the ones with a holding period exceeding one year are known as long-term capital gains. For determining the holding period, you will have to count from the day following the day of the asset acquisition and up to the day when the asset is disposed of.
The short-term capital gains tax rate is equivalent to your ordinary income tax rate whereas long term capital gains tax rate varies between 0%, 15% or 20% according to your filing status and taxable income. Differential tax rates are applicable in the case of short-term and long-term capital gains as you are most likely to pay more taxes on the former than the latter.
Rates of Capital Gain Tax
If your taxable income is greater than the threshold applicable for a 15% capital gain rate, then a net capital gain tax rate of 20% will apply to the incremental amount. Let us take a look at the capital gains tax rates for 2022 in a tabular structure:
| Tax-filing status | Single | Married, filing jointly | Married, filing separately | Head of household |
| 0% | $0 – $41,675 | $0 – $83,350 | $0 – $41,675 | $0 – $55,800 |
| 15% | $41,676 – $459,750 | $83,351 – $517,200 | $41,676 – $258,600 | $55,801 – $488,500 |
| 20% | $459,751 or more | $517,201 or more | $258,601 or more | $488,501 or more |
Exceptions to Taxation on Long-Term Gain
The reduced rate of long-term capital gains tax does not apply to collectible assets like fine art, antiques, valuable vintage wines, or coins. Profits arising from the same are charged a flat 28% irrespective of its holding period.
Capital Gains Rate on Retirement Accounts
Retirement accounts like IRAs make it possible to defer the payment of capital gain taxes. You are not liable to pay any tax unless money is withdrawn from the account. The bad part about this is all the earnings and contributions withdrawn from any taxable retirement account or a taxable IRA including long-term capital gain profits are taxed like ordinary income. Thus, retirement accounts cannot offer the benefit of lowering long-term capital gain rates despite offering tax deferral facilities.
Impact of Capital Losses on Your Tax Computation
Short- and long-term gain attracts different rates of taxes. The amount of tax is also affected if your investments end up making losses rather than generating income. These losses can be used for reducing your tax burden. To determine your net capital gain or loss, you can match the gains and losses for the said financial fiscal for making the following adjustments in your tax computation:
- After setting off your capital losses against the gains if you get a net loss then you can use up to $3000 of the same year for reducing your taxable income.
- Assesses can carry forward the additional losses into future years to offset their capital gains amount.
- Capital gains or losses are not generated in a retirement account. As a result, the losses in 401(k) plans or IRAs cannot be used to offset your other income or capital gains.
Tips To Minimize Capital Gains Taxes
- Rather than selling your assets immediately after possession, keep them for at least a year to enjoy a lower capital gains tax rate.
- Taxation on your principal residence is significantly different from the capital gains tax rate levied on other real estate profits. If the home you owned was used for primary residential purposes over 2 years out of the five years preceding the same, then single assesses can exclude up to $250000 of capital gains and married assesses filing jointly can exclude up to $500000. Multiple home sales cannot be excluded from the purview of capital gains taxation within two years.
- Dividends on investments can be reinvested into underperforming investments rather than the ones which paid them. Doing this will help avoid capital gains arising from selling strong performers.
- You can enjoy considerable tax savings by investing money in a 529 college savings plan, IRA accounts, and 401(k) plans. The tax-deferred or tax-free nature of these investments ensures that you won’t have to shell out capital gains taxes on earnings immediately and in some cases no tax liability shall arise even after withdrawing the money.