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Capital Gains Tax – What you need to know 2019

As an investor, it is essential that you understand what capital gains tax is and what is expected when filing these taxes. Most beginner traders and investors often focus on learning about trading and forget that there are tax requirements that must be observed to be on the right side of the law. The capital gain tax is mandatory in most countries with each country having its criteria for reporting.

In this post, we will cover the general information about capital gain tax and everything you need to know about filing for capital gains in Europe and in the US.

  • Different types of a capital gains tax rate.
  • Who should pay a capital gains tax?
  • How is capital gains tax rate calculated?
  • Tips to minimize capital gains tax.
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What is a Capital gains tax?

A capital gains tax is a tax levied on the income derived from the difference between the buying price and the selling price of an asset. For example, if a trader buys XYZ share at $15 and sells it at $20, the capital gain is $5, which is the amount that is taxed.

The capital gain tax is usually paid at the sale of an asset which means that one does not have to worry about these taxes until they decide to sell their assets. Simply put, an investor can hold an asset that appreciates every month, but they do not owe any capital gains tax until they decide to sell it even if it is after 20 years.

As mentioned in the introduction, different countries have different requirements for the capital gains tax, and therefore it is essential for the investor to understand the criteria followed in their jurisdiction.

For instance, while there are no capital gains taxes in countries like Switzerland and Belgium, it is a requirement in the United States for individuals and corporations to pay annual capital gains taxes on their net capital gains. The same case applies in the UK where both the individuals and corporations are required to file for capital gains annually.

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Different types of capital gains tax

Capital gains taxes can either be long term or short term. The difference between the two is that the former is derived from investments held for more than one year while the latter is for those held below one year.

For instance, if an investor purchases 50 shares of stock for $10 per share and sells them four months later at $13 per share, the capital gains tax to be paid will be short term. Likewise, if the investor holds the shares for eighteen months and sells them at $15 per share, the capital gains tax to be paid will be long term.

The difference between the two is of utmost importance given that they are taxed differently. This is especially for those in the US where short-term capital gains are taxed as ordinary income. In the U.S. individuals are advised to hold on their investments for more than one year to reduce their tax burden.

However, it is important to note that not all tax jurisdictions pay much attention to the period the asset is held and therefore it is good that you engage a tax expert in determining your country requirements. We recommend that you only settle for a tax expert with considerable experience in matters of capital gains tax in trading and investing.

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Who should pay a capital gains tax?

In most countries, individuals and corporations are subject to capital gains taxes. For both, the sale of assets such as stocks, bonds, precious metals, and property must be accompanied by tax reporting on capital gains and payments where applicable.

According to taxpolicycenter.com, capital gains tax in the US is a tax on the profit of the sale or disposal of an asset, which includes stocks and investments. While the tax forms part of the income tax portion for both businesses and individuals, the rate of taxation tends to be a little lower.

Currently, in the US, the Capital Gains Tax is levied slightly higher on the high-income population, which is often argued to be a partisan approach. This means that higher-income individuals pay a higher percentage of tax than lower-income groups. Democrats favor a high-rate stance for higher income groups while Republicans are known to lobby for a more equal spread.

Consumers who wish to qualify for a lower tax rate should consider long-term trading, as asset sales under 12 months will be lumped into the short-term capital gains bracket which is charged at the same rate as income tax. Longer term asset sales enjoy a lower capital gains tax rate. The long-term capital gains rates are in brackets of 0%, 15%, and 20%. Income tax, on the other hand, is charged at 15%, 28%, 31%, 36%, and 39,6%.

Calculation of capital gains tax

A capital gains tax is a fraction of the amount gained in the appreciation of an asset. However, the detailed calculation of capital gains tax depends on the tax jurisdiction.

There are numerous online resources to help in the calculation of capital gains tax but for the purpose learning, let us review the formulas applied in the US. First, to calculate your capital gains tax, you need to calculate the capital gain. As mentioned above, this is derived from the difference between the buying price and the selling price of an asset.

For instance, a trader buys 50 XYZ shares at $20 per share, and after one year, the price has risen to $32 per share. If the trader decides to sell at this point, the total proceeds will be $1600 (50*32) compared to the total buying price of $1000 (50*20). The capital gains will, therefore, be £$00 ($1600 – $1000).

Now let’s say that they were filing in the US. The requirement is to add together the gains from each asset and deduct any allowable losses. The implication is that if share XYZ is held in a portfolio, the investor is required to calculate the aggregate capital gains which include losses within the portfolio. This, in turn, reduces the capital gains tax burden.

The top three most important tips to Minimize Your Capital gains tax rate

Use tax-advantaged accounts.

If you are in the US, committing your assets to an Individual Retirement Account (IRA) is one of the best ways to reduce the capital gains tax bill. By contributing to and IRA or 401(k), the deductibles reduce the taxable income. The maximum contribution to Roth IRA for those under the age of 50 is $18,000. For those over the age of 50, there is the $6,000 catch-up contribution that pushes this figure up to $24,000. 401(k) accounts do not fall within these limits and are restricted by the employer-matched contributions instead.

Investors should also keep an eye out for the CGT exemption, which allows an exemption of $4,150 in the 2018 tax year. This amount is based on a maximum income of $266,700 ($320,000 for married couples filing jointly) and higher. It completely phases out by the time it reaches an income of $389,200 ($442,500 for married couples filing jointly).

Consumers also have access to Tax Free Savings Accounts (TFSA) such as the Flexible Spending Account (FSA) and the Health Savings Account (HSA). The maximum contribution to the FSA is $2,650 per annum and $3,450 to the HSA for individuals and $6,900 for families.

Keep the records of repairs on personal properties.

If you own a second home that you let and intends to sell it in the future, ensure that you keep records showing all the repairs that you have carried out and their costs. At the sale, the taxman will require you to provide evidence of these expenses to get deductions on the taxable amount.

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These tips can also be very helpful

Gift assets to a spouse.

As mentioned earlier, gifts are exempt from capital gains tax. By transferring your assets to your partner, you take advantage of both capital gains tax allowances amounting to $14,000 for individuals and $28,000 for couples who file jointly.

Spread gains over tax years.

Instead of selling your assets at a go and only benefit from the allowances of that year, you can split the amount to sell in two tax years and enjoy the cumulative allowances.

Trade Rather Than Sell 

Known as one of the legitimate tax tricks that allow consumers to gain a new asset without selling the old one, trading or swapping is a favorite among those who don’t want to be lumbered with a high tax account. There are limitations to this and the IRS is open to like-kind trades. These transactions need to take place within 180 days in order to be considered.

This is a good option for those who don’t intend on keeping their asset for the long term. Also referred to as a section 1031 exchange, consumers are not restricted to only one of these exchanges. This means the asset can be exhanged numerous times before actually converting to cash.

Additional Tips for Experienced Traders/Investors

Reduce taxable amount.

Another way to minimize your tax bill on capital gains is to reduce your taxable income. This can be achieved by sacrificing your salary through pension contributions or childcare vouchers or by transferring taxable income bearing assets such as cash deposits to a lower earning spouse. Other ways include deferring the state pension and a change from earning to pension incomes.

Be sure to Invest in small companies first.

The tax bill on capital gains can also be reduced by investing in special-tax efficient programs which provide funding to small businesses. These include Enterprise Investment Schemes (EIS) and Venture Capital Trusts (VCTs). However, this option is best left to experienced and rich investors.

Keep An Eye Out For Charitable Causes.

Investors who want the community to benefit directly instead of waiting for the disbursement of funds from the government, can donate funds to charitable causes. These charities will need to be registered in order to qualify the business or individual to deduct it from their taxable income. Investors should ensure they know the limits of taxable contributions.

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Conclusion:

Capital Gains Bottom Line

Please note that you do not have to exchange with another person. You can sell your asset and use the proceeds to buy a similar asset within the timeframe allowed by your tax jurisdiction.

Please note that you do not have to exchange with another person. You can sell your asset and use the proceeds to buy a similar asset within the timeframe allowed by your tax jurisdiction.

As we have seen, it is important for traders and investors to understand the capital gains tax concept and take the necessary measures to be taken. The calculation of capital gains tax rate differs with tax jurisdictions, and therefore it is important to engage a tax professional when filing.

As a trader or an investor, there are a number of ways you can reduce your capital gains tax burden. You should be aware of them and explore the suitable ones to maximize profits. Subscribe for more information about taxes and tips to help you lower your tax burden.

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