Are you doing some online stock trading? Then you could have a bit more work to do come tax season.
Paying Capital Gains Taxes When You Trade Stocks
Those of you who invest in the stock market and who are traders enjoy the thrill of buying and selling stocks, sometimes daily. But what you don’t enjoy is paying taxes on your trading activities. I should say from the beginning that I’m not going to show you how to avoid paying taxes. It is our obligation to pay taxes on the money we make. I do, however, believe that we shouldn’t pay any more than we have to.
Image from LA Times Blogs
I’m surprised by how many traders don’t know how much they are paying in taxes on their trades. First, there are two types of taxes we have to know about: capital gains and dividend taxes.
All About Capital Gains Taxes
Capital gains taxes are simply taxes on money that you make on a trade. These are taxes on your trading profits. As with any job we have held, any money we make is taxed. This also applies to our investing activities. There are two types of capital gains taxes: long term and short term.
Long term capital gains are taxes on the gains you make on a stock that you have held for at least one year. These taxes are a maximum of 15%, but are just 5% if you are in the 15% or lower tax bracket. Please do not time your trades based on taxes, but when possible, it’s in your best interest to hold a stock for at least one year.
Short term capital gains are taxes on stocks that are held for less than a year. While many traders do not usually keep the same stocks in their online stock brokerage account for a year or more, it makes sense to do so when possible. The short term capital gains tax is 25% or higher depending on your tax bracket. So remember: that $100 gain you made on your latest trade instantly shrank to $75. Not nearly as impressive is it?
As you can see, taxes on short term trades can take a large bite out of your gains, so as is always the case, it’s generally more profitable for the part time investor to have a long term investment attitude instead of a short term trader’s mindset.
Facts About The Dividend Tax
The second type of tax is the dividend tax. This is simply a tax on any company dividends that you are paid. The IRS taxes dividends at 15%. For the retail investor, dividends tend to be a relatively small amount of money since retail investors don’t normally own enough stock for the 1% dividend to represent a sizable gain.
At the end of a calendar year, tax selling usually transpires, which sometimes brings the stock market down a bit. Losses offset gains, thus helping to avoid capital gains taxes. It’s never a good idea to buy or sell based on taxes, so if you know that you’re holding onto a good company, don’t sell just to avoid paying larger taxes later (when your gains are larger).
My final word of advice is this: When participating in online stock trading, your taxes may add a level of detail that you may not be comfortable with. Consider hiring a tax advisor or get the help of a tax professional to make sure you pay the right amount.