It used to be that only the rich had to worry about capital gains. Today, with more and more average Americans investing everyday, capital gains have become more and more a part of our everyday language. The tax rate from the capital gains tax schedule that applies to you depends on the type of asset you sold, your cost basis, the length of time you held the asset before selling it and your income level. The lower rates apply to stocks, bonds, mutual funds and other capital assets. Business and rental real estate, depreciation and collectibles are taxed at a slightly higher rate.
It is of great importance for you to understand and calculate your cost basis correctly. While the value of your equity is the price you paid for your stocks, it is not the number you should report on your tax return. The number that goes on your tax return is the value of the equity of your stock minus any costs incurred in carrying out the transaction. That means you should subtract the commission you paid to your broker, or other such costs, in order to figure your cost basis. Take a look at how calculating your cost basis affects your reporting of gain. If you bought 100 shares of stock at $50, the value of the stock is $5,000. If you paid a $100 commission to your broker, that means your cost basis is now $5,100. If you sell all of the shares when they hit $100, your proceeds for the sale will be $10,000, less the $100 paid for commission. That brings your net proceeds down to $9,900. Therefore, instead of reporting a $5,100 gain, you will report a $4,900 gain and that's a $200 dollar difference. If you would have had to pay 20% tax on that $200, then you've saved $40. The forty dollars may not seem like much, but it all adds up, especially if you are a big trader and/or pay out a lot of money in commissions.
Most brokers deduct the commissions paid from the proceeds and therefore the net shown on your Form 1099-B should be reported as sale proceeds. However, some brokers do not deduct from the proceeds and therefore you must add the commission to the basis you report on Schedule D. Make sure you check the 1099-B forms you receive. A checkbox on the form will indicate which way the brokerage is reporting its commissions. Its important for you to get it right because the government is also sent a copy of the Form 1099-B you have received and will compare it to your reporting on Schedule D. Discrepancies could potentially cause trouble.
There are two holding periods for capital assets sold on or after January 1, 1998. Assets held for more than one year are considered long term while those held for less than a year are considered short term. If you are in the 15% tax bracket and your assets have been held for less than a year, you are taxed at the ordinary tax rate. However, if your assets have been held for more than one year, you will only be held at the 10% rate. The same holds true for those of you in a tax bracket greater than 15%. Assets held for less than a year are taxed at the ordinary income tax rate while those held for more than one year are taxed at a 20% rate.