As we wind down tax season for 2016, numerous American families have faced a heavy tax burden for choosing to sell their investments. More than any other method of taxation, the capital gains tax has the greatest impact on middle-class business people and investors. Capital gains – the money made from selling an asset such as stocks, bonds, property, and precious metals – are frequently taxed at high rates, especially for those with higher incomes. Therefore, the impact of these taxes should always be considered when investing in stocks and other securities. While it may seem smart to make a short-term investment with a higher interest rate rather than a long-term investment with a lower rate, that lower-interest investment may leave more after-tax dollars in your pocket.
Fortunately, there are several ways to avoid some – or even all – of your capital gains tax. Generally, this involves the strategic use of tax-safe investments. Of course, this isn't a problem for those investing through tax-sheltered retirement accounts, which allow you to buy, sell, and exchange securities without creating any capital gains tax liability. These accounts will continue to grow your investments – free from capital gains tax as long as any money earned from a sale is reinvested in another security. There are, however, plenty of investors with side money invested in the stock market for reasons that have nothing to do with retirement. Many of these American families don't realize that they could potentially sell their stock investments profitably without owing a single penny in capital gains taxes. This is the only truly voluntary tax, since it's up to you to determine if and when you realize a gain(within IRS parameters), and thereby incur the resulting tax bill.
The simplest strategy for lowering your capital gains taxes is to avoid short-term investments, since long-term holdings are taxed at a lower rate. Generally, your capital gains tax rate will equal your income tax rate for short-term holdings. To potentially avoid taxes, you must have owned the stocks you're intending to sell for at least one year. Then, if your household falls under the 10% or 15% tax bracket, you can sell your shares and pay absolutely no taxes whatsoever! In fact, the average married couple earning $75,300 per year could net gains of over $8,000 from the sale of stock without incurring any tax liability. Depending on the deductions they are entitled to, a married couple may be able to earn far more while still avoiding capital gains taxes, since these figures are for income after deductions.
Reduce your taxable income by establishing a health savings account. HSAs allow you to save for future medical expenses, and money in these accounts is tax-exempt when withdrawn for medical purposes. To open an account, several conditions must first be met – including having a qualifying high-deductible health insurance plan, not being on Medicare, and not being a dependent on another individual's income tax return.
Consider a family of four earning $135,000 before taxes. Four simple deductions are all it takes to cut their taxable income practically in half, to $67,450: their standard deduction of $12,600; exemptions for four family members totaling $12,200; 401(k) contributions of $36,000; and a health savings account deduction of $6,750. This allows them to sell shares of stock on which they have earned as much as $7,850 ($75,300-$67,550) – while keeping all of their investment gains.
If this family were to regularly take advantage of such tax-saving opportunities, the savings could be enormous. If you have stocks in taxable accounts, consider ways that you could harvest capital gains without incurring any tax liability. You may be able to increase your contributions to your 401(k) or 403(b), open up a traditional IRA, or donate to charity. All of these can reduce your taxable income, allowing you to sell your stocks without owing a dime in taxes. Investing a larger percentage of your income in retirement accounts allows you to shelter it from income taxes, since the money you funnel into a retirement account won't be taxed immediately.
Minimizing your tax burden requires a comprehensive financial analysis by investment professionals. At Werba Rubin, we're committed to helping you achieve your goals by making the most of your financial resources, and that includes avoiding the expense of unnecessary taxes.
All investments involve risk, including the loss of principal and cannot be guaranteed against loss by a bank, custodian, or any other financial institution.
The information herein is general in nature and should not be considered insurance, legal or tax advice. Please consult with an insurance legal or tax professional for additional information on specific situations.