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When Does Capital Gains Tax Apply?

When Does Capital Gains Tax Apply? - TaxAct Blog

You sold your house, an investment property or something else of value. When do you tell the IRS?

When you sell a valuable asset, such as real estate, the IRS definitely wants to know about it.

In fact, for the sale of many assets the IRS finds out even if you don’t tell them, thanks to reporting forms such as Form 1099-S, Proceeds From Real Estate Transactions.

No matter how large the transaction, or how much money you received as a result of the sale, you wait until you file your income tax return to report the sale to the IRS.

However, that doesn’t mean you don’t need to do anything until next year. In fact, it could be an expensive mistake if you wait until you prepare your tax return to plan for any tax on capital gains.

It’s very important when you sell an asset to determine if you need to make estimated tax payments or otherwise plan for the tax consequences of the sale.

Why worry about estimated tax payments?

The IRS may require you to make quarterly estimated tax payments if you have substantial income, such as that from the sale of an asset, not subject to withholding.

For tax year 2015, you may need to make quarterly payments if you owe more than $1,000 when you prepare your tax return, and your withholding and refundable credits are less than 90 percent of your total tax or 100 percent of your tax for the previous year.

If you don’t make estimated tax payments, you could face penalties and interest charges on the amount of tax you should have paid during the year.

Will you pay additional taxes as a result of capital gains?

The first thing you need to know is if your tax bill will go up as a result of the sale. If you didn’t have a substantial gain, the sale may not affect your taxes much.

For example, if you sold an asset, no matter how valuable it was, for less or little more than you paid for it, there’s little to worry about.

However, if you realized significant appreciation on your asset, your capital gains tax may drastically affect your overall tax bill.

Perhaps the easiest way to find out if you owe more money as a result of selling an asset is to run next year’s tax numbers using TaxAct’s tax calculator.

Answer all the questions based on your expectations for the entire year. It’s alright to estimate. As you work, you’ll be able to see how the sale affects your tax refund or amount due in the upper right corner of your screen.

How else can I estimate the tax on a capital asset?

Another way to quickly determine how much tax you’ll pay on a sale is to estimate the gain based on your tax rate.

If you sell a capital asset you owned for one year or less, you will pay tax at your ordinary income tax rate.

For example, say you sold stock at a profit of $10,000. You held the stock for six months. If your federal income tax rate is 25 percent, you’ll owe about $2,500 in tax on your short-term capital gain.

If you had the same $10,000 profit, but you held the asset for more than one year, the tax rate is lower.

If you are in the 25 percent tax bracket, for example, your tax rate on long-term capital gains is only 15 percent. You only owe $1,500 in capital gains tax.

If you are in the 10 percent or 15 percent tax bracket, your long-term capital gains tax rate is 0 percent.

Be aware that capital gains can push you from one tax bracket to another (see How Tax Brackets Work).

In that case, the entire gain is not taxed at the higher rate – only the part that is now in a higher bracket.

Consider an example where a taxpayer is in the 15 percent marginal tax bracket before any capital gains. The taxpayer then sells a parcel of land that is considered to be a capital asset at a significantly greater value than the taxpayer’s basis in the land. The taxpayer will have to recognize a capital gain from the sale of the land.

If the capital gain is $50,000, this amount may push the taxpayer into the 25 percent marginal tax bracket. In this instance, the taxpayer would pay 0 percent of capital gains tax on the amount of capital gain that fit into the 15 percent marginal tax bracket.

The remaining portion of the capital gain that pushes the taxpayer into the 25 marginal tax bracket is then subject to a 15 percent capital gains tax.

Another caveat: substantial capital gains can increase your adjusted gross income, possibly changing the amount of tax benefits you receive for various deductions and credits.

When to make estimated tax payments

You should generally pay the capital gains tax you expect to owe before the due date for payments that apply to the quarter of the sale.

The quarterly due dates are April 15 for the first quarter, June 15 for second quarter, September 15 for third quarter and January 15 of the following year for the fourth quarter. When a due date falls on a weekend or holiday, your quarterly payment is due the following business day.

Even if you are not required to make estimated tax payments, you may want to pay the capital gains tax shortly after the salewhile you still have the profit in hand.

Making quarterly estimated tax payments

You can use TaxAct to determine your quarterly payments and print out a quarterly payment voucher. You’ll need to print the voucher, attach a check or money order and mail it to the IRS before the due date.

Another option is to use Electronic Funds Withdraw (EFW) to have a payment deducted from your bank account automatically. You can set this up using TaxAct software.

The IRS also has a phone system and Internet site that accepts payments by credit or debit card. Unfortunately, there is an additional convenience fee for this service.

If you need to pay estimated taxes and other payments regularly, it’s worth the time required to set up an account with the Electronic Federal Tax Payment System (EFTPS), which is a service provided for free by the U.S. Department of Treasury. If you wish to use EFTPS, its always best to plan ahead.

Alternatives to making estimated tax payments

Instead of making estimated tax payments, you may choose to increase your income tax withholding to cover the additional tax.

File a new Form W-4 with your payroll department. This can be a relatively painless way to cover the additional tax. Just don’t forget to adjust your income tax withholding again after January 1 when the capital gain amount is not included in your income (see How to Fill out Form W-4 to Keep More Money in Your Pocket).

Another strategy is to plan other tax events to counteract the effect of the capital gains tax.

For example, you may want to sell an asset that has gone down in value, make a business investment or contribute to charity during the same year as the sale. Losses on investments are first used to offset capital gains, which means the less tax you’ll pay on the capital gain.

However, it’s important to note, losses can only be deducted against capital gains of the same nature. For example, short-term capital losses are only deductible against short-term capital gains.

Additionally, you can only deduct up to $3000 of net long-term capital losses in a given tax year. Any excess net long-term capital losses can be carried forward until there is sufficient capital gain income or the $3000 net long-term capital loss limitation is exhausted.

If you’ve sold an asset recently, did you plan for the tax consequences before you made the sale?

TaxAct makes preparing and filing your taxes quick, easy and affordable so you get your maximum refund. It’s the best deal in tax. Start free now or sign into your TaxAct Account.
About Sally Herigstad

Sally Herigstad is a certified public accountant and personal finance columnist and author of Help! I Can't Pay My Bills, Surviving a Financial Crisis (St. Martin's Griffin). She writes regularly at CreditCards.com, Bankrate.com, Interest.com, RedPlum, and MSN Money. She is an experienced speaker and a member of Toastmasters International. Follow Sally on Twitter.