Strategic Tax Planning for Capital Gains and Losses
Year-end has historically been a good time to plan tax savings by carefully structuring capital gains and losses. Conventional wisdom has always been to minimize gains by selling “losers” to offset gains from “winners,” and where possible, generate the maximum allowable $3,000 capital loss for the year.
Long-term capital losses offset long-term capital gains before they offset short-term capital gains. Similarly, short-term capital losses offset short-term capital gains before they offset long-term capital gains. (“Long-term” means that the stock or property has been held over one year.) Keep in mind that taxpayers may use up to $3,000 of total capital losses in excess of total capital gains as a deduction against ordinary income in computing adjusted gross income or AGI. Individuals are subject to federal income tax at a rate as high as 39.6% on short-term capital gains and ordinary income. But long-term capital gains are generally taxed at a maximum rate of 15% or 20%.
All of this means that having long-term capital losses offset long-term capital gains should be avoided where possible, since those losses will be more valuable if they are used to offset short-term capital gains or ordinary income. Avoiding this requires making sure that the long-term capital losses are not taken in the same year as the long-term capital gains. However, this is not just a tax issue; investment factors also need to be considered. It would not be wise to defer recognizing gain until the following year if there is too much risk that the property’s value will decline before it can be sold. Similarly, one wouldn’t want to risk increasing a loss on property that is expected to continue declining in value by deferring its sale until the following year.
To the extent that taking long-term capital losses in a different year than long-term capital gains is consistent with good investment planning, a taxpayer should take steps to prevent those losses from offsetting those gains.
- Increased Capital Gains Rates — The special long-term capital gains rates that have been in effect since 2003 are revised as of 2013and for future years without Congressional tinkering. The capital gains rates are now 0% to the extent your marginal tax rate is 10% or 15% and 15% to the extent your marginal rate is between 25% and 35%. This means that the 15% capital gains rate will apply for individuals who file the single status with taxable income in 2013 between $36,251 and $400,000. The 15% capital gains rate for married couples filing jointly will be in effect if their 2013 taxable income is between $72,501 and $450,000. For higher income taxpayers – those in the 39.6% tax bracket – the capital gains rate increases to 20%.
Individuals with large long-term capital gains in their investment portfolios might consider taking a profit up to the amount that would be taxed at 0%. The good news here is that the wash sale rules do not apply to assets sold at a gain. So if you like a stock, you are free to buy it back right away. If your state doesn’t have a lower tax rate on capital gains, then the additional state tax you’d pay from selling profitable capital assets will need to be weighed against the federal tax you’d potentially save when deciding whether to make tax sales before year-end.
- Increased Marginal Tax Rates — Beginning in 2013 the marginal rates are 10, 15, 25, 28, 33, 35 and 39.6 percent (up from 10, 15, 25, 28, 33 and 35 percent). These rates apply to “ordinary” income including short-term capital gains.
Conventional wisdom has always been to defer income, but depending upon your tax bracket and future income you anticipate, it may be appropriate to consider accelerating income to take advantage of a lower tax rate.
It may be in your best interest to review youy current year tax strategy with an eye to the future to maximize your benefits from gains or losses associated with capital assets.