Do you own stocks, bonds or other securities in a taxable account (not a retirement account)? Here are some strategies for minimizing taxes or taking advantage of your tax bracket this year:
- Avoid the high taxes (up to 40.8 percent) on short-term capital gains and ordinary income by holding your positions for at least 12 months.
- Lower the taxes to zero—or if you can’t do that, then lower them to 23.8 percent or less by making the profits subject to long-term capital gains.
- If you are in a low tax bracket, you might be able to sell some of your long-term stocks at a zero percent tax rate.
Think of this: you are paying taxes at a 71.4 percent higher rate when you pay at 40.8 percent rather than the tax-favored 23.8 percent.
To avoid the higher rates, here are seven possible tax planning strategies.
Strategy 1
If you have generated gains on sales of stocks or mutual funds in 2020, offset those gains with sales of other stocks that generate losses.
Strategy 2
Use long-term losses to create the $3,000 deduction allowed against ordinary income.
Strategy 3
As an individual investor, avoid the wash-sale loss rule.
Under the wash-sale loss rule, if you sell a stock or other security and re-purchase substantially identical stock or securities within 30 days before the date of sale or after the date of sale, you don’t recognize your loss on that sale. Instead, the code makes you add the loss amount to the basis of your new stock.
If you want to use the loss in 2020, then you’ll have to sell the stock and not repurchase that same stock for more than 30 days.
Strategy 4
If you have lots of capital losses or capital loss carryovers and the $3,000 allowance is looking extra tiny, sell additional stocks, rental properties, and other assets to create offsetting capital gains.
If you sell stocks at gains to purge the capital losses, you can immediately repurchase the stock after you sell it—there’s no wash-sale “gain” rule.
Strategy 5
Do you give money to your parents to assist them with their retirement or living expenses? How about children (specifically, children not subject to the kiddie tax)?
If so, consider giving appreciated stock to your parents and your non-kiddie-tax children. Why? If the parents or children are in lower tax brackets than you are, you get a bigger bang for your buck by:
- gifting them stock,
- having them sell the stock, and then
- having them pay taxes on the stock sale at their lower tax rates.
Strategy 6
If you are going to make a donation to a charity, consider appreciated stock rather than cash, because a donation of appreciated stock gives you more tax benefit.
It works like this:
- Benefit 1. You deduct the fair market value of the stock as a charitable donation.
- Benefit 2. You don’t pay any of the taxes you would have had to pay if you sold the stock.
Example. You bought a publicly-traded stock for $1,000, and it’s now worth $11,000. You give it to a 501(c)(3) charity, and the following happens:
- You get a tax deduction for $11,000.
- You pay no taxes on the $10,000 profit.
Two rules to know:
- Your deductions for donating appreciated stocks to 501(c)(3) organizations may not exceed 30 percent of your adjusted gross income.
- If your publicly traded stock donation exceeds the 30 percent, no problem. Tax law allows you to carry forward the excess until used, for up to five years.
Strategy 7
If you could sell a publicly-traded stock at a loss, do not give that loss-deduction stock to a 501(c)(3) charity. Why? If you sell the stock, you have a tax loss that you can deduct. If you give the stock to a charity, you get no deduction for the loss—in other words, you can just kiss that tax-reducing loss goodbye.
Investing in Qualified Opportunity Zones
Although the capital gains rates are attractive, some taxpayers prefer to defer paying ANY tax to a later time. The new tax law in 2018, TCJA, added a new way to defer the tax on capital gains for up to seven years by investing in a qualified Opportunity Zone. To take advantage of this tax deferral, you must invest the gain from the sale of a capital asset into an Opportunity Zone within six months after the date of sale.
Investing in an Opportunity Zone provides several tax benefits, including:
- Tax on the initial capital gain is deferred until December 2026 (unless you sell the investment earlier)
- If the proceeds are invested in the fund for five years,10% of the initial gain is not taxed
- If the proceeds remain invested for an additional two years, another 5% of the gain is not taxed
- In order to achieve the full 15% exemption, the investment must be made before December 31, 2020
- If you hold the Opportunity Zone investment for a full 10 years, any appreciation on the original investment is exempt from tax.
