When your clients sell a capital asset–whether for a gain or a loss–it can have a significant impact on their taxes. To make sure you’re informed and ready to handle their returns, here are 10 things you should know about capital gains and losses.
What counts as a capital asset?
Capital assets include personal property, such as your clients’ home or car, as well as investment property, such as stocks and bonds. In fact, according to the IRS, “Almost everything you own or use for personal or investment purposes is a capital asset.” Selling any capital asset could trigger a capital gain or loss that should be reported on their tax return.
What is a capital gain? What is a loss?
A capital gain or loss is the difference between your basis and the amount you get when you sell an asset. The basis is usually the cost your client incurred when purchasing the asset, including the cost of the asset itself as well as any associated fees.
If your client received the asset as a gift or inheritance, determining their basis can be tricker. In these cases, you’ll need to know the fair market value of the stock or bond on the day it was transferred to them and the donor’s adjusted basis. IRS Publication 550 Investment Income and Expenses offers detailed instructions for calculating basis in these situations.
What is NIIT?
If your client has net investment income and a modified adjusted gross income (MAGI) above the following thresholds, they’ll likely be subject to the Net Investment Income Tax (NIIT).
|Filing Status||MAGI Threshold|
|Married filing jointly||$250,000|
|Married filing separately||$125,000|
|Head of household (with qualifying person)||$200,000|
|Qualifying widow(er) with dependent child||$250,000|
The rate of this tax is 3.8 %, and it will be applied to the lesser of their Net Investment Income or the amount that their MAGI exceeds the threshold. For example, a single filer has a Net Investment Income of $30,000 from the sale of stocks and a MAGI of $210,000. The 3.8% tax will only apply to the $10,000 (the amount that their MAGI exceeds the income threshold), not to the $30,000 in Net Investment Income. Their total NIIT would be $3,800.
How do you determine net capital gain for taxes?
To determine if your client has a net capital gain, you’ll determine both their long-term and short-term capital gains or losses on Schedule D (Form 1040). You’ll then combine the short and long-term gains or losses on Line 16. If the amount is positive, they have a net capital gain for the year.
What’s the difference between short and long-term capital gains tax?
Capital gains and losses are either long-term or short-term, depending on how long your client held the property. If they held it for one year or less, the gain or loss is short-term. The short-term capital gains tax rate is equivalent to the income tax rate for their tax bracket.
If they held the property for more than one year, the gain or loss is long-term, and gains will be subject to the long-term capital gains tax rates:
2022 Tax Rates for Long-Term Capital Gains
|Single||Up to $41,675||$41,676 – $459,750||$459,751+|
|Head of household||Up to $55,800||$55,801 – $488,500||$488,501+|
|Married filing jointly||Up to $83,350||$83,351 – $517,200||$517,201+|
|Married filing separately||Up to $41,675||$41,676 – $258,600||$258,601+|
Other capital gains tax rates
The long-term capital gains tax rate usually depends on income according to the table above. However, a 25 or 28% tax rate may apply in the following situations:
- The sale of a section 1202 qualified small business stock
- The sale of collectibles (such as coins or art)
- The sale of section 1250 real property if there is any unrecaptured section 1250 gain
When can you deduct capital losses?
Capital losses can be used to offset capital gains and lessen your client’s net capital gain for the year. If their capital losses exceed their capital gains, they can deduct their losses from their taxable income up to a certain amount (more on that below). Note that they cannot deduct losses on the sale of property that they hold for personal use, such as a home residence.
Is there a limit on the tax deduction for capital losses?
There is no limit on using capital losses to offset capital gains. There are, however, limits when deducting a net capital loss from taxable income. This loss deduction is capped at $3,000 per year or $1,500 per year for married filing separately. If your client’s losses exceed this amount, they can benefit from carryover losses in subsequent tax years.
How to handle carryover losses
If your client’s net capital loss is more than the limit they can deduct in a single tax year, they can carry over the remaining loss to future tax returns. If they are deducting the loss from their taxable income, the loss deduction cap of $3,000 per year (or $1,500 for married filing separately) still applies. So, if your client had a net capital loss of $12,000, they would deduct $3,000 from their taxable income in the year they incurred the loss and spread the remaining $9,000 deduction out equally over the next three years.
However, the $3,000 cap does not apply if the carryover loss is being deducted from a net capital gain. Using the example above, say that your client had a capital gain of $10,000 the year after they incurred the $12,000 loss. They could then deduct the remaining $9,000 in losses from their capital gains, reducing their taxable capital gains to $1,000.
Use the Capital Loss Carryover worksheet on the Schedule D Instructions to figure the exact amount your clients can carryover in a given year.
Which tax forms are used to file capital gains or losses?
When your client has a capital gain or loss, you’ll almost always need to file Form 8949 Sales and Other Dispositions of Capital Assets and Schedule D Capital Gains and Losses with their tax return. You’ll then enter relevant information from these forms on their Form 1040 or Form 1040-SR. Your TaxSlayer Pro software supports each of these forms and will help you simplify calculations and reporting.
For more details on capital gains and losses, you can refer to Publication 550 Investment Income and Expenses and the Schedule D Instructions.
This article was last updated on 06/02/2022.