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Ask a Fool: What Should New Investors Know About Capital Gains Taxes?

By Matthew Frankel, CFP® – May 10, 2019 at 3:18PM

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Here's a brief explanation of how capital gains taxes work.

Q: I just bought my first stocks, and I'm curious about taxes. Specifically, if my stocks go up this year, how much tax will I owe?

While there's obviously more to learn about capital gains taxes than I can explain in a few paragraphs, here's a quick overview of the basics.

First, you won't owe a dime in capital gains taxes simply because your stocks go up. Even if your stocks double, triple, or better, you don't owe any capital gains tax until you sell.

Second, there are two categories of capital gains: short-term and long-term. Short-term capital gains occur when you sell an investment you held for a year or less, and they are taxed as ordinary income. In other words, you'll pay the same tax rate on short-term gains as you would on income from your job.

A long-term capital gain occurs when you sell an investment you hold for over a year, and these are taxed at lower rates -- 0%, 15%, or 20%, depending on your total taxable income.

There's also a 3.8% net investment income tax that applies to capital gains of higher-income investors, regardless of whether the gains are short- or long-term in nature.

Finally, you pay taxes on your total capital gains each year, not just on profitable investments. So if you sell one stock at a $5,000 profit and another for a $4,000 loss, you'll only have a $1,000 capital gain. Even if your losses exceed your gains, you can use as much as $3,000 in losses per year to offset your other taxable income.

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