Most investors face a 15 percent tax rate on long-term capital gains. This increases to 20 percent for people at the top of the ordinary income bracket (39.6 percent). That's not too bad, considering the higher tax rates on regular income.
But did you know that long-term capital rates are reduced to 0 percent in certain situations? This means you might be able to benefit from a reduced tax rate on your profits on the sales of assets.
How to qualify for 0% capital gains rate
Capital gains from transactions such as securities sales are taxed at ordinary income rates under a graduated rate structure. This structure ranges from 10 to 39.6 percent.
However, if you've owned assets like securities for longer than a year, the maximum tax rate on a gain is 15 to 20 percent if you're at the top of the ordinary income tax bracket. Capital gains may be offset by capital losses and vice versa, so this rule applies to your net gains.
On the other hand, short-term capital gains from sales of securities held a year or less are still taxed at ordinary income rates.
If your capital gains fall within the parameters of the 10 to 15 percent ordinary income brackets — the two lowest brackets — the maximum tax rate on a long-term gain is 0 percent. This often benefits low-income investors (ex. young investors), but it can also favor adults during a year when their other income is low.
Here's an example of how it could work: you file jointly and an S corporation loss reduces your taxable income to $65,900 this year. The upper dollar threshold for the 15 percent tax bracket for joint filers is $75,900. So, if you realize a $10,000 long-term capital gain in 2017, the entire gain is taxed at the 0 percent rate.
Keep this helpful tax break in mind when planning year-end securities transactions. The 0 percent tax rate might just help you hold on to more of your profits. Give us a call if you have questions about your year-end planning.
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