When you sell an asset, whether it's for investment or just personal use, you've got a capital gain to report and taxes to pay if you've made a net profit on the transaction. The federal tax rules recognize two basic flavors of capital gain -- long-term and short-term -- and set different tax rates for them. In general, keeping an asset for a short period is more expensive, tax-wise, than holding it for the long term.
A short-term gain or loss is one realized on an asset held for less than a year. At the federal level, any gain on the sale of a short-term asset is taxed at the same rate as your wages and other ordinary income. If you pay a top marginal rate of 25 percent, for example, a short-term gain of $100 on the sale of stock bought within the last year means a tax hit of $25. In addition, for those in the highest tax bracket, a 3.8 percent Net Investment Income tax applies on both short- and long-term gains.
Long-Term Gains, Lower Taxes
Keeping an asset for more than a year means you've got a long-term gain or loss when you sell that asset. For any profit on these long-term transactions, the tax rate is generally lower, although it still varies with your tax bracket. For those at the 10 or 15 percent income tax rate, the long-term capital gains rate as of the time of publication was 0 percent. The rate rises to 15 percent for those in the middle brackets (25 to 35 percent) and 20 percent for those in the highest federal income tax bracket of 39.6 percent.
Assets placed in an individual retirement account will, ideally, gain in value over time. In a traditional IRA, both long- and short-term gains are taxed as ordinary income when you start making withdrawals. With a Roth IRA, gains are tax free if the account has been open at least five years. At the front end, traditional IRA contributions are tax deductible, while Roth contributions are not.
Capital Losses and Carryforwards
If you've lost money on capital asset transactions, whether they're short or long term, you may have netted a capital gains loss for the year. Internal Revenue Service rules allow you to deduct up to $3,000 of that loss from the income showing on your tax return. If you've exceeded that limit, you may carry the loss forward to subsequent years and deduct it from your capital gains or your ordinary income. If you're unsure of your holding period for an asset or of the tax rate that should apply, consult a tax accountant or financial adviser.