If you suspect you may face a hefty tax bill this year or in the future on your investments thanks to capital gains, there’s still time to plan to reduce them, financial and tax experts say.
Whether you own marketable securities, shares in companies or real estate, selling them with a gain results in taxation, most of the time. There are short-term capital gains for assets held less than a year at ordinary income rates, and long-term capital gains for assets held longer than a year with a maximum federal tax rate of 20 percent, depending on your income.
Lowering your tax bill requires knowing how to time investment purchases and sales, and understanding tax rules, so heed the following to see if you qualify for reductions:
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Donate appreciated securities. If you have held any securities for more than one year with value, you can receive a charitable deduction for their market value and also avoid paying capital gains taxes on the asset, says Benjamin Sullivan, a portfolio manager with Palisades Hudson Financial Group in Austin, Texas.
“If you’re not ready to give the money to a specific charity just yet, you can still claim the income tax donation now if you contribute the investments to a donor-advised fund. Then, you can parcel out the funds to individual charities whenever you prefer,” he says.
Donor-advised accounts are available from low-fee and low-minimum brokers like Fidelity, Schwab and Vanguard.
Capture losing investments. If any of your investments are losing, you can reduce your tax liability if you sell them, Sullivan says, while offsetting any gains you’ve realized.
“To the extent realized capital losses exceed capital gains, you can then use up to $3,000 of those capital losses to reduce ordinary income,” he says. “You can carry forward any capital losses in excess of the $3,000 limit indefinitely to offset future realized gains or ordinary income.”
There’s some strategy to this idea as well.
“If you are a long-term investor and intend to hold this position for a long time, it is strategic to sell and ‘harvest’ that loss for your taxable, reportable income for the year, with the intention of repurchasing it,” says Judith Lu of Los Angeles-based Miracle Mile Advisors. The only catch is that you cannot repurchase it within 30 days (called the wash-sale rule).
If this is your goal, consider doing so with exchange-traded funds, which allow you to sell a position, harvest that loss for your taxes, and at the same time, repurchase another security that holds virtually the exact same underlying securities, Lu says.
Delay gains. If your income is likely to fluctuate year to year, save the sale of any investments for a lower income year, since your capital gains tax is determined by income levels, says Josh Zimmelman of Westwood Tax and Consulting in New York.
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Examine your mutual funds and don’t purchase them late in the year. In the last couple months of the calendar year, mutual fund managers often sell a stock due to the changing outlook, or to raise cash for shareholder redemptions, forcing taxable distributions to shareholders, Lu says.
“This is why it is generally disadvantageous to purchase mutual funds in the last few months of the year,” Lu says. “You are essentially at risk by someone else’s tax bill.”
You may not owe tax after all. If you’ve held an investment longer than a year, individuals with taxable income of up to $37,950 and joint filers with income of up to $75,600 don’t have to pay any capital gains.
“If your taxable income will be less than these amounts including any capital gains and you expect your income to increase in the future, it can make sense to realize a gain before the end of the year,” Sullivan says.
The sale of your primary residence is also excluded from capital gains tax up to $250,000 as a single filer and up to $500,000 for a married couple, Zimmelman says. Keep receipts and records of all improvements and repairs for the cost basis, which will limit the taxes you must pay if any are due.
And if you are a small business owner with less than $50 million in assets, an investor or employee, stock acquired after Sept. 27, 2011, and before January 1, 2012, that is held for at least five years is excluded from capital gains tax and alternative minimum tax, says Michael Hadjiloucas, a tax partner at EisnerAmper in Iselin, New Jersey.
Gift assets to family. Taxpayers can give up to $14,000 annually to someone without paying tax on it, so by giving some of your assets to someone in a lower tax bracket, you can save compared to if you sold it yourself. But be aware that if the gift is made to your children and they have unearned income that exceeds $2,000, they’ll have to pay taxes at their parents’ rates.
Plan for next year. Proper tax planning goes beyond just making one-time moves at the end of the year or near tax time, Sullivan says.
“To minimize your tax burden, you need to continually consider how you structure your finances,” he says.
Actively managed mutual funds, hedge funds, and frequent stock trading can sound appealing, but remember that what’s left after paying taxes is what matters and these investment styles cost more in taxes than long-term investment strategies, he says.
[See: 6 Reasons to Love Apple Stock in 2018.]
“Consistently funding retirement accounts, investing in a tax-efficient manner, and managing the type and timing of income you receive is essential,” he says.
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How to Lessen the Bite of Taxes originally appeared on usnews.com
