Understanding Capital Gains and Their Tax Implications
Authored by: Charlie Miracle, CPA, Financial Advisor, Director of CAS
Understanding Capital Gains and Their Tax Implications
Chris Rock once remarked, “You don’t pay taxes – they take taxes.” That applies not only to income but also to capital gains.
When selling an asset, understanding capital gains and their tax implications is critical to effective financial planning. Whether it's equipment, a house, stocks, or a business, capital gains (or losses) are an essential concept to grasp.
What Are Capital Gains?
A capital gain occurs when you sell an asset for more than its adjusted basis—the amount you originally paid for the asset, adjusted for factors like depreciation or improvement costs. If the selling price is less than the adjusted basis, you incur a capital loss.
Calculating Capital Gains
The calculation is straightforward:
- Capital Gain/Loss = Net Selling Price - Adjusted Basis If the result is positive, you have a gain; if negative, it's a loss. Adjustments to the basis, such as claimed depreciation or improvement expenses, play a key role in determining the final gain or loss.
How Are Capital Gains Taxed?
Capital gains are classified as either short-term or long-term:
- Short-term capital gains apply to assets held for under a year and are taxed at ordinary income tax rates.
- Long-term capital gains apply to assets held for over a year and are taxed at preferential rates, ranging from 0% to 20%, depending on your overall taxable income.
Special rules apply to collectibles like coins or stamps, which are taxed at a rate of up to 28%. Depreciable assets, like equipment or rental property, may also be subject to depreciation recapture, taxed at ordinary rates or capped at 25% for certain real estate.
Deferring Capital Gains Tax
In some cases, you can defer capital gains tax:
- 1031 Exchanges: Investment real estate gains can be deferred by reinvesting in a similar property.
- Installment Sales: Taxation occurs only as payments are received over time.
Why Consult a Tax Professional?
Selling an asset can have significant tax consequences.
Finally, for some assets, the calculation of a capital gain or loss may not be as simple and straightforward as it sounds. As with any matter dealing with taxes, individuals are encouraged to seek the counsel of a tax professional before making any tax-related decisions.
If you have questions about how capital gains impact your tax situation, contact us at cnccpa.com or call (509) 663-1661. We're here to provide you with a complete financial team in your corner.
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