With the holiday season coming to a close and consumers coming to terms with the fact that it's about time to head back to work, another reality is about to set in: It's practically tax time.
For most Americans, taxes rank right above watching the grass grow and the paint dry in terms of excitement. But tax time is also a critical time of the year for consumers and retailers, as more than 80% of taxpayers wind up netting a refund from the government.
Unfortunately for taxpayers, the U.S. tax code continues to grow more complicated. Since 2001 Congress has enacted more than 5,000 changes to the U.S. tax code, and the cumulative code itself now totals around 4 million words. It means millions of Americans will either need to stay on top of these countless annual changes or increasingly turn to financial professionals or do-it-yourself tax software for help preparing their taxes.
While relying on software or a tax professional isn't necessarily a bad thing, being unaware of which tax laws have changed prior to the start of the new tax year could put taxpayers at a disadvantage and lead them to pay out more in taxes than they might have were they knowledgeable of the changes.
Three things to know about capital gains taxes in 2015
With that in mind, let's take a closer look at three important things you need to know about the capital gains tax in 2015 so you'll be prepared to maximize your income and reduce your taxation in the upcoming year.
No. 1: Capital gains taxes in 2015 are unchanged from 2014
Good news, taxpayers: Although the government has enacted a number of tax changes in 2015, the capital gains tax rate is staying the same.
If you sell investments that are held for less than a year, you'll pay your income tax rate on your gains, which ranges between 10% and 39.6%.
On the other hand, long-term capital gains are taxed at a rate of 0%, 15%, or 20%, depending on which marginal tax bracket you fall into. Usually, consumers in the 10% or 15% marginal tax bracket pay no long-term capital gains taxes. The bulk of the population will pay a 15% long-term capital gains tax in 2015. The 20% tax rate was introduced last year and only applies to taxpayers that fall into the highest marginal tax bracket of 39.6%. Although the income qualifications for the 39.6% brackets have adjusted higher by about 1.5% in 2015, the tax rates themselves are unchanged from the previous year.
No. 2: You'll pay a lower capital gains tax if you hang on to your investments
The second and most critical fact that you need to be aware of is that holding your investments over the long term will allow you to avoid being heavily taxed on your investments. Short-term capital gains aren't eligible for any tax benefits, meaning investors could kiss nearly 40% of their profit goodbye if they flip an investment in less than 12 months.
Long-term gains come with significantly lower taxes. For example, those in the highest income bracket can reduce their expected capital gains taxes on an investment held longer than a year by nearly 50% (from 39.6% to 20%). That's a figure that'll make any taxpayer stop and listen!
Take billionaire hedge fund manager Dan Loeb's investment in Yahoo! as an example. Let's pretend this was a personal investment, rather than a purchase by his hedge fund, and let's also presume he still netted $1 billion in profits. In this instance, holding Yahoo! for a year or longer could mean the difference between paying $200 million in long-term capital gains taxes and paying a whopping $396 million in short-term capital gains taxes.
The next time you're thinking of selling a stock that has recently popped 10%, remember this example and ask yourself why you're considering selling that stock in the first place. If you don't believe in the business model or your investing thesis any more, then a sale is understandable. However, if you do still believe in the business model, then there's probably nothing behind your decision to sell other than emotions and dollar signs -- and selling may wind up costing you in both taxes and missed capital gains.
No. 3: You may have the ability to offset your capital gains
Lastly, you may have the ability to take some of the biggest disappointments in your investing portfolio and use them to offset some or all of your capital gains.
Let's face it: Not every investment we make will be a winner. The goal is to let our winners continue to run and to cut our losers before they become a real drag, but that's not always how things work out. Sometimes we wind up with extensive losses in our portfolio and simply don't know what to do with them.
The good news is there's a solution to these "dead" investments: You can sell them to help offset your capital gains. If you just netted $100,000 after selling one of your long-term investments and are sitting on a bad investment that has cost you $50,000 over the long run, you can consider selling it and reducing your taxable capital gains to $50,000 from $100,000. Even if you choose not to offset your capital gains in the current year and simply want to part ways with your poorly performing investments now, you're allowed to carry your capital gains losses forward until you do have a chance to use them to offset your gains in future years.
Now that you have a better understanding of the capital gains tax for 2015, it's up to you to put this knowledge to work in order to maximize your income and minimize your tax liability.