DAT Financial & Tax Service

Investments and Capital Gains/Losses

Taxes are one important consideration when deciding whether to sell an investment.

Starting in 2011, the IRS will require different forms for reporting sales to determine taxable gain or loss. The old Schedule D is modified and a new Form 8979 "Sales and other Dispositions of Capital Assets" is added. The new modified Schedule D becomes a summary page of all capital gain transactions that are now reported on the new Form 8949.

The new form was created to accommodate the new basis reporting rules Congress passed in 2008 and are now in effect. All the details of your sale will need to be separated for short-term and long-term gains and losses in three different categories: sales for which you receive a Form 1099-B reporting your tax basis; sales for which the 1099-B does not show your cost basis; and sales for which you don't receive a Form 1099-B. A separate Form 8949 must be completed for each of the three categories of sales.

Basis

You must determine the "basis" of any investments sold during the year to determine whether you have a gain or loss. As you get organized for your tax appointment, please prepare a sheet or add a column directly on your Form 1099B showing the date the stock was purchased and its cost, including the commissions. You can also e-mail an Excel spreadsheet with your stock/mutual fund sales. The sales prices on the 1099B will already have deducted the selling commissions. You may need to call your broker or mutual fund manager to provide the cost basis. Starting in 2012, brokers will supply you the cost basis if you purchase the stock in 2012 or later.

Taking Losses

If you were caught in the stock market slide, you may have sold or may want to sell some of your losers. Capital losses can be used to offset any capital gains you have plus up to $3,000 of other income, such as salary from your job. (Any excess losses can be carried forward for use in a future year.) Losses are most valuable if used to offset short-term capital gains (investments held one year or less) since those gains are taxed at regular income tax rates. The losses could be even more valuable if you're bordering on the income-eligibility limits for a tax break. Some major tax benefits are phased out for taxpayers with AGIs above certain levels. Capital losses will reduce your AGI, sometimes allowing you to qualify.

"Wash-Sale" Rule

You may also be considering selling to lock in a loss and take the tax write-off, but are still thinking that the long-term prospects for the stock are favorable. In such cases, you might want to sell the shares, write off the loss and then buy replacement shares to maintain your investment position in case the stock goes back up. But the tax law places strict restrictions on such tax-motivated swapping. Under the "wash-sale" rule, you must defer losses from the sale of a stock if you buy shares in the same stock 30 days before or after the sale.

However, you can sell the stock and then immediately buy a similar (same industry) stock or mutual fund that has a similar investment philosophy.
(With thousands of mutual funds, dozens have the same investment goals.) You can avoid the 30-day wash-sale restriction by investing in a security that wouldn't be considered "substantially identical" to the one being sold. If you're taking losses on a bond, you could reinvest in one that has a similar maturity and coupon rate from a different issuer.
If you're selling shares in a bond mutual fund, you could reinvest in a different fund that holds bonds with similar maturities and yields.

If You Have Excess Losses

If you expect your losses to exceed your capital gains by more than $3,000, it may make sense from a tax standpoint only to sell more of your stocks with gains. By selling them before the end of the year, you can use your excess losses to offset the tax on those gains.

Deferring Gains

You also may have a tax incentive to defer selling profitable investments until after December 31. Waiting will postpone the tax for an extra year.

Capital Gains Tax Rates

Short-term gains are taxed at regular income tax rates. Gains on shares held more than one year are taxed at a maximum 15 per cent. For investors in the 15 per cent tax bracket or lower, shares held more than one year are taxed at 5 percent. Qualified stock dividends are also taxed at a maximum 15 per cent capital gains rate, rather than ordinary income tax rates.

New 0 per cent rate expires after 2012: You can receive dividends and long-term capital gains and pay no tax until they push you into the 25 per cent tax bracket. To qualify for the 0 per cent rate, you must have owned the assets over a year and be in the 10 or 15 per cent tax bracket. Short-term gains and long-term gains on collectibles don't qualify for these special rates. For example, for married, filing jointly, if all of your income was $60,000 (still in 15 per cent bracket) from dividends and long-term capital gains, none of your income would be taxed.

AGI Considerations

When considering a sale, review how the income or loss will affect your AGI for the year, since some valuable tax breaks are phased out for individuals with AGIs above certain levels. Among them are the child tax credit, adoption credit, various college tax breaks and the traditional and Roth IRA.

Designating Shares to Sell

If you decide to sell a portion of your holdings in a particular stock or mutual fund, you may be able to minimize the tax bite by instructing your broker or fund manager which specific shares to sell in some cases.
This must be done at the time of sale-not at tax preparation time. And once you decide on a system (either first-in, first out; last-in, first-out, average cost or designated shares), you must stick with it for all sales of that stock or fund.

Timing Purchase of New Mutual Fund Shares

If you're planning to invest new money in a mutual fund before the end of the year, try to find out the fund's plans for year-end capital gains distributions. If the fund is expected to make a large distribution, consider waiting until after the payout to make your purchase. By waiting, you'll avoid getting stuck with an extra tax liability next tax season.

Reinvesting Dividends and Capital Gains

Even if your stock portfolio or mutual fund has lost money "on paper," you don't have a tax loss until you sell the shares. Also, your 1099 statement will show any dividends or capital gains that have been issued, even if you reinvest them in new shares. The reinvested funds are taxable, even if you didn't receive them in cash.

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