Capital gains taxes can significantly impact the profit you make from selling an asset. The capital gains tax levied against a taxpayer depends on their income, how long they held the asset, the asset class, and other details. Investors should perform due diligence when considering selling an asset to ensure they understand their tax burden.
Federal capital gains tax rates vary based on taxpayer income and filing status. In general, state capital gains taxes will also apply, increasing the capital gains tax obligation. Understanding how capital gains tax varies by state can help you determine your tax burden for the year.
What Is Capital Gains Tax?
The capital gains tax is the tax on a taxpayer’s profit from selling a capital asset, such as real estate property, cryptocurrency, stocks, and bonds. If a taxpayer sells an asset and makes more than their adjusted basis, they have a capital gain. Capital losses occur when the owner sells the asset for less than their adjusted basis.
The Internal Revenue Service (IRS) classifies capital gains and losses as long-term or short-term. A long-term capital gain is the profit from an asset held for longer than one year. If you own an asset for one year or less, any capital gains are short-term. Taxes are higher for short-term capital gains than long-term gains.
2023 Tax Rates for Long-Term Capital Gains
The federal capital gains tax rates are 0%, 15%, and 20%, depending on taxpayer filing status and yearly taxable income. Here are the 2023 tax rates for long-term capital gains, according to IRS Revenue Procedure 2022-38:
- Filing as single: The 0% tax rate applies to people with income up to $44,625. The 15% rate applies to incomes between $44,626 and $492,300. For incomes over $492,300, the 20% rate applies.
- Married and filing joint returns: The 0% tax rate applies to people with income up to $89,250. The 15% rate applies to incomes between $89,251 and $553,850. For incomes over $553,850, the 20% rate applies.
- Married and filing separate returns: The 0% tax rate applies to people with income up to $44,625. The 15% tax rate applies to incomes between $44,626 and $276,900. For incomes over $276,900, the 20% rate applies.
- Head of household: The 0% tax rate applies to people with income up to $59,750. The 15% rate applies to incomes between $59,751 and $523,050. For incomes over $523,050, the 20% rate applies.
Special Capital Gains Rates and Exceptions
The IRS treats some asset classes differently than the typical treatment for long-term capital gains. Consider these special rates and exemptions that could apply to your investments:
Collectibles are valuable items such as artwork, stamp collections, antiques, or coins. Regardless of the owner’s income, the IRS taxes capital gains from the sale of collectibles at 28%.
Investment Real Estate
Real estate investors can deduct depreciation on investment properties from their income taxes. Investors must reduce the basis by the depreciation, whether they took the deductions or not. Since depreciation deductions are considered to reduce the amount an investor paid to purchase the property, taking the deductions could result in higher taxable capital gains if the investor sells the property.
Owner-Occupied Real Estate
Taxpayers might qualify for an exclusion for capital gains from the sale of their primary residence. Individuals can subtract up to $250,000 in capital gains from the sale of their homes. Married people filing a joint tax return can exclude up to $500,000. This exclusion may significantly lower the homeowner’s capital gains tax burden. To qualify for this exclusion, individuals must meet the ownership and use requirements.
Net Investment Income Tax
If an investor has a net investment income above applicable thresholds, they may be subject to an additional Net Investment Income Tax (NIIT). For individual investors, the NIIT is 3.8% on whichever is less between:
- The individual’s net investment income
- Any amount over the individual’s modified adjusted gross income according to certain thresholds
Calculating Your Capital Gains
Because tax law can be complicated, many taxpayers figure out their capital gains tax obligation using software or working with tax professionals who understand the nuances of the rules. However, a capital gains tax calculator can also help you figure out the total tax you’ll need to pay on the sale of an asset.
Taking the following steps can help you calculate your capital gains for the year:
- Determine your basis for all assets sold: Your basis in an asset is the original purchase price plus any transaction costs, fees, and commissions.
- Calculate realized capital gains: Determine the sale prices of your assets and subtract any transaction costs. Subtract the basis from your realized amount.
- Determine short-term and long-term gains and losses: You must subtract your capital losses from your capital gains to determine your total taxable capital gains. To simplify this calculation, sort the short-term capital gains and losses separately from the long-term ones.
- Figure net gains or losses: Find a total short-term gain, short-term loss, long-term gain, and long-term loss by reconciling the appropriate numbers. Find your net short-term gain or loss and net long-term gain or loss.
Capital Gains Tax Strategies
Investors can use several strategies to reduce their capital gains tax burden. While these strategies are used widely, discussing your options with your tax professional is important to determine which strategies might be best for your personal tax situation.
1. Leverage Capital Losses
If capital losses exceed capital gains for the year, the taxpayer can claim up to $3,000 against their income. If the loss is greater than $3,000, taxpayers can carry it forward and use it to reduce their tax liability in the future.
2. Invest in Tax-Advantaged Retirement Accounts
Retirement accounts like 401(k)s and traditional IRAs allow tax-free contributions and let your investment grow without being subject to capital gains tax. However, income taxes are due on these investments when you make withdrawals. Conversely, contributions to Roth IRAs are taxable, and their qualified distributions are tax-free.
3. Pay Close Attention to Your Holding Period
An asset must be sold more than one year after being purchased to qualify for more favorable long-term capital gains tax rates. Carefully track the days that have passed since you bought an asset to avoid paying the higher short-term capital gains rates.
4. Sell Assets After Retirement
While there is no longer any capital gains exemption for older adults, waiting until after retirement to sell certain assets could reduce the tax you have to pay. Many people have a lower income in retirement than when they were working, putting them in a lower tax bracket and reducing the tax rate.
5. Perform a 1031 Exchange
Another strategy for lowering your capital gains tax burden is performing a 1031 exchange. A 1031 exchange allows real estate investors to sell one investment property and use the proceeds to purchase another property while deferring capital gains taxes. The replacement property must be equal to or above the value of the relinquished property. Investors can continue performing 1031 exchanges to defer capital gains taxes indefinitely.
Capital Gains Tax Rates by State
In addition to federal capital gains taxes, selling an investment could also prompt state capital gains tax. The amount you can expect to pay at the state level varies depending on where you live. States range significantly in how they treat capital gains. Speaking with a tax professional will help you navigate your particular situation.
There are also states with no capital gains tax. These states do not have a traditional income tax, but they may tax dividends and interest from investments, depending on the state:
- New Hampshire
- South Dakota
Here is the long-term capital gains tax by state:
- Alabama: 5.00%
- Alaska: 0.00%
- Arizona: 4.50%
- Arkansas: 5.50%
- California: 13.30%
- Colorado: 4.55%
- Connecticut: 6.99%
- Delaware: 6.60%
- Florida: 0.00%
- Georgia: 5.75%
- Hawaii: 7.25%
- Idaho: 6.93%
- Illinois: 4.95%
- Indiana: 3.23%
- Iowa: 8.53%
- Kansas: 5.70%
- Kentucky: 5.00%
- Louisiana: 4.25%
- Maine: 7.15%
- Maryland: 5.75%
- Massachusetts: 5.00%
- Michigan: 4.25%
- Minnesota: 9.85%
- Mississippi: 5.00%
- Missouri: 5.40%
- Montana: 6.90%
- Nebraska: 6.84%
- Nevada: 0.00%
- New Hampshire: 0.00%
- New Jersey: 10.75%
- New Mexico: 5.90%
- New York: 8.82%
- North Carolina: 4.99%
- North Dakota: 2.90%
- Ohio: 4.80%
- Oklahoma: 4.75%
- Oregon: 9.90%
- Pennsylvania: 3.07%
- Rhode Island: 5.99%
- South Carolina: 7.00%
- South Dakota: 0.00%
- Tennessee: 0.00%
- Texas: 0.00%
- Utah: 4.95%
- Vermont: 8.75%
- Virginia: 5.75%
- Washington: 7.00%
- West Virginia: 6.50%
- Wisconsin: 7.65%
- Wyoming: 0.00%
Learn More With 1031 Crowdfunding
Federal and state capital gains taxes can reduce your profit from selling an investment property or other asset. However, there are several strategies for reducing your capital gains tax burden.
At 1031 Crowdfunding, our leading investment platform offers real estate and other alternative vehicles for tax-deferred investments. We offer a wide selection of vetted 1031 exchange properties and other real estate properties. The experienced management team at 1031 Crowdfunding can help you determine how to reduce your capital gains taxes. To see our full offerings, register for an investor account.
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