This time of year, taxes are on everyone’s mind: Will you have to pay and how much? Are you curious about how your stocks are taxed?
Here is a breakdown of what kinds of taxes and at what rate you could end up paying, if you need to pay at all.
If you own stocks other than 401(k)s and IRAs, which are tax sheltered, you could end up paying taxes in two ways: capital gains and/or short term gains.
Capital Gains Taxes
A trader selling stocks at a gain owes taxes on the dollar amount between what the stock sold for and what was originally paid for the stock to include commission costs associated with the stock purchase and sale. These are known as capital gains for which capital gains taxes are paid. The amount of taxes to be paid are based on the investor’s taxable income. Individuals in the highest tax bracket, with income over $400,000, or more than $450,000 for a couple, will pay 20% on the amount above the limit. If investors are in the 10% or 15% tax bracket, they pay nothing on their profits. Everyone else pays 15% on profits.
Short Term Gain Exception
Stocks held for less than a year before selling are subject to taxation at the top marginal tax rate on the short term gain which, for most investors, is higher than the capital gains tax.
If an investor sells stocks for less than what was originally paid and those losses are greater than any gains, the difference qualifies as deductible on his or her tax return.
Up to $3,000 or up to $1,500 for couples filing separately can be used to reduce other taxable income. If a year’s losses are greater than the limit, the loss can be carried over to the next year as if it were acquired in that next year.
If an investor’s stocks yield a dividend, the capital gains tax rate is usually levied on those dividends. Dividends from domestic corporations or qualifying foreign companies held for one year or more are known as qualified dividends. Qualified dividends are taxed at the capital gains tax rate. Employee stock options, REITs, and savings accounts (non-qualified dividends), are taxed at the investor’s regular income tax rate.
An individual investor with income over $200,000, or more than $250,000 for couples, could additionally pay a net investment income tax known as Medicare tax at flat tax rate of 3.8%.