Short-term capital gains are taxed differently from capital gains made on assets held for longer than one year. Learn more about capital gains and how they may impact your investing decisions.
Definition and Example of Short-Term Gain
The amount of any capital gain, whether short or long term, is determined by first finding the difference between what you paid from the day you acquired the asset and the sale price on the day you sold the asset. A “short-term” capital gain is defined as one year or less, determined by the day you acquired the asset to the time up to and including the day you sold the asset. For example, say you purchase one share of Google for $2,668 in October 2021 and sell it for $2,975 two months later, in December 2021. You have made a short-term capital gain of $307. Any capital gains made on an asset held for longer than a year may be subject to long-term capital gains. Short-term gains are taxed at an individual’s personal income tax rate, which ranges from 10% to 37% in 2022 depending on household income.
How Short-Term Gains Work
Determining an adjusted basis can lower the capital gain, thus lowering the amount of taxes paid when an asset is sold. In many cases, further calculations are necessary to find the adjusted basis of an asset. Adjusted basis factors various tax provisions into the calculation. With actual property such as a home or commercial building, deductions may be taken for expenses to maintain or improve the property. You may adjust the basis of stocks for certain events that occur after purchase, such as stock split or reinvestment of dividends. If capital losses exceed capital gains, a taxpayer is limited to claiming $3,000 in losses or $1,500 if married filing separately. Net capital losses over $3,000 can be carried over to later tax-filing years. For example, if an investor who sells two different short-term stock holdings from a portfolio earns $8,000 in profit on one and loses $3,000 on the other, the net short-term gain is $5,000.
What It Means for Investors
Short-term capital gains are significant to the increasing number of people in the last decade who day trade or who attempt to flip houses. Profits made through either practice are subject to short-term capital gains if the asset is bought and sold within one year. There are numerous tax implications for day traders or active investors who buy and sell assets frequently and are subject to short-term capital gains tax laws. Consult with a tax attorney who can advise you on the best strategies to minimize taxes on short-term capital gains. If you invested in cryptocurrency, this gets even more complicated. You may be subject to capital gains tax, not only if you sell the cryptocurrency, but also if you use it to make a purchase. Another aspect to consider is that each state has its own income tax law and by extension, its own rules for taxing capital gains. Some states such as California tax both short-term and long-term capital gains at ordinary income tax rates, while other states may offer different tax treatments.
