Are you wondering, “If I sell stocks, do I pay taxes?” Or you may be asking, “How much do I pay in taxes for stocks?” If you have invested in the stock market, these are valid questions.
So, when are you taxed on stock? While the price of a stock can fluctuate wildly, you won’t pay any taxes on the gains until you sell the shares and convert your paper gains into actual gains. But, when you do sell the shares, the IRS will want a cut of your profits. Depending on how long you’ve owned the stock, you could qualify for a lower tax rate on your profits, which are known as capital gains.
Calculating Capital Gains on Stocks
To figure the taxes on stocks when you sell them, you need to know your stock basis and your net proceeds. Your basis is generally what you paid to purchase the stock, including any transaction fees.
For example, if you purchased shares of stock for $995 and paid a $5 transaction fee, your basis for the stock would be $1,000. If you received the stock as a gift, your basis equals the donor’s basis. However, if you inherited the stock from a decedent, your basis equals the fair market value of the stock on the date the person died, regardless of what that person paid.
Your net proceeds equal the sales price minus any transaction costs. For example, if you sell the stock for $1,405, but paid a $5 transaction fee, your net proceeds would be $1,400.
Once you know your basis and your net proceeds, subtract your basis from the net proceeds to determine your capital gain. In this case, subtracting your $1,000 basis from your $1,400 net proceeds yields a $400 taxable capital gain.
Different Rates for Different Gains
So, how much do you pay in taxes for stocks you have held for a short time compared to long-term investments?
Well, a different tax rate applies to your short-term capital gains rather than your long-term capital gains. Short-term capital gains, which are gains realized on stocks you owned for one year or less, are taxed at the same rate as your ordinary income. Long-term capital gains, which are gains from selling stocks you owned for more than one year, are taxed at the lower capital gains tax rates.
2021 Capital Gains Rates
The Tax Cuts and Jobs Act changed the tax brackets, but the long-term capital gains rates still range anywhere from zero to 20 percent. However, instead of the rates being based on your income tax bracket, the rates are based on dollar amounts.
For example, for singles, the zero percent tax rate applies to capital gains income when your total income is less than $80,000, the 15 percent rate applies to income between $80,000 and $441,450 for singles.
If you are married or a qualifying widow or widower, you can earn as much as $496,600 and the 15 percent rate will still apply. For heads of households, the maximum is $469,050, while married but filing separately can earn up to $248,300 as the maximum.
Your capital gains will be subject to the 20 percent taxation rate once you exceed the maximum limits set for the 15 percent rate. Therefore, in order to offset potential capital gains taxes, you can also choose to sell various securities in your portfolio that are experiencing a loss, which will help reduce your overall capital gains profits. This practice is known as "tax loss harvesting" and is a common strategy among investors.
Ryan Cockerham is a nationally recognized author specializing in all things innovation, business and creativity. His work has served the business, nonprofit and political community. Ryan's work has been featured at Zacks Investment Research, SFGate Home Guides, Bloomberg, HuffPost and more.