Avoiding Capital Gains Tax
Investors agree that avoiding capital gains tax is important, for taxes can have a significant impact upon the profits realized from investments. However, with planning and discipline, a person can deflect some of the effects from capital gains taxes. Although changes in capital gains tax rates are ongoing, there is usually enough time before changes actually take place to ensure that these do not seriously alter investment plans. Committing oneself to a general investment plan while remaining flexible enough to deal with new regulations takes a certain amount of discipline and a determination to remain informed about financial matters. Yet this mixture of disciplined planning and flexibility allows an investor to realize maximum profits from investment vehicles.
Capital gains are taxed differently depending upon whether an investment is long or short term. A short term investment is one in which the asset is held for one year or less. These short term investments are taxed at the same rates as ordinary income tax rates. Long term investments are those in which the assets are held for a period greater than one year. These are taxed at a discounted rate -- normally 5% or 15%, depending upon the investor's tax bracket. If investments are held until they qualify for these discounted rates, it will allow the investor to reap greater earnings while avoiding capital gains tax when the investment is sold.
Which rates a person will pay depends upon several things. These include when a person buys and sells an asset, the income level of the investor, and the latest IRS code changes! For this reason, a person should consult with investment advisors or experts in these laws before taking any actions regarding his or her investments. However, it is possible to stay informed about many of these laws regarding capital gains tax rates through financial websites and articles. Check to make sure that the information uncovered is up to date and accurate before altering an investment strategy.
Currently, capital gains tax rates are 5%, 15%, 25%, or 28% for long term investments. An individual's income determines which of the capital gains tax rates apply to the investment. Long term capital gains tax rates are usually much lower than regular income tax rates. Collectibles (stamps, coins, precious metals or gems, rare rugs and antiques, and fine art) are taxed at a flat rate of 28%. Some business assets which are used in a business venture are considered investments. These may include equipment used in the business, such as copiers and computers, or items such as desks, chairs, and other office furniture.
Before 1997, the only way to be sure of avoiding capital gains tax on the sale of a home was to use the money to buy another more expensive house within two years. Sellers who were age 55 or older could take a one-time exemption of up to $125,000 on profits realized from selling their homes. These rollover or one-time options were replaced with new exclusion amounts by the Taxpayer Relief Act of 1997. Now, a person does not have to buy another house with the proceeds from selling a house. There is no limit on the number of times this home sale exemption can be used. Each time, the seller can realize up to $250,000 in profits if he or she is single, or $500,000 for married couples. The property has to be a principle residence, and a person has to live in it for two out of the five years before the sale. Note that the two years does not have to be consecutive. Any combination of renting out and living in the property is acceptable, as long as the owner lives there for two out of the five years previous to the sale. The new rules also eliminate paperwork. If a person's profits do not exceed the limits, nothing need be filed with the IRS. Some pro-rated tax free profits are allowed under certain circumstances due to changes in health, employment and unforeseen circumstances. Military personnel get special exemptions from the use requirement if they must move to fulfill service commitments, for the frequent deployments common to their employment make it difficult to meet residency rules.
Investment properties have their own set of rules for avoiding capital gains taxes. The sale of one investment property for another, sometimes called a 1031 Exchange (named for the section of the IRS code which permits this action), Starker Trust Exchange, or 'like kind' exchange, helps investors to avoid capital gains penalties. An investor must select a replacement property within 45 days of the sale of the investment property. Also, one must close on the purchase of the second investment property no later than 100 days following the closing on the first property. A 'qualified intermediary' will hold the money and act as the seller of the first property and the buyer of the second one. The second property must have at least equal value as the one which was sold. Also, the second property must be used as an investment property with at least some evidence of rental activity for two years. In this way, a person can defer the capital gains tax from the sale of the first property. After the two years are up, the owner can declare the property his or her primary residence and live in it for at least two more years. At that point, if it is sold it will qualify for the $250,000 or $500,000 exclusion from capital gains taxes.
Be sure to consult an attorney or tax advisor before beginning this process, to make sure the latest terms are agreeable and that all the current requirements are met. "Render therefore to all their dues: tribute to whom tribute is due, custom to whom custom..." says Paul in Romans 13:7. Christians have the duty to pay any taxes which are due. However, if there is a legal way of avoiding capital gains tax, this is a wise way to preserve funds which can then be used for other purposes.
Tax Reduction StrategyA tax reduction strategy includes a well thought out plan that enables a person to save on the amount of income taxes paid every year. Some of the ways to save is by installing solar panels or insulation, install central air conditioning with an energy conservation unit, or any type of upgrade that promotes energy savings or green living. Making a tax deferred contribution to a retirement plan will reduce a person's adjustable gross income. A tax saving strategy might include paying extra on a mortgage so that interest can be deducted or make additional charitable contributions. Increasing deductions can reduce income so less tax is owed but the deductions need to be legitimate. Some legitimate itemized deductions include mortgage interest, charitable donations, medical expenses, any business expenses, and other miscellaneous amounts. A person who is self-employed and conducts business out of the home is eligible to take a percentage of home expenses for business use.
Owning a home can mean a deduction of all of the interest paid for the year. This is a tax reduction strategy and a good reason to buy a home over renting or leasing. Lenders normally provide a year end statement that lists all of the interest paid for the year. In addition, a year end statement from a lender will include real estate taxes and insurance paid through an escrow account. The real estate taxes are deductible but the insurance is not. The amount that is deductible for property taxes is for the actual taxes paid not including any penalties or other fees. Property taxes and mortgage interest payments for an entire year can add up to a substantial amount.
Medical expense deductions include health care premiums and actual costs of doctor visits, dentist visits, eyeglasses, prescription drugs, and medical supplies. The total of all of these must exceed a certain percentage based upon adjusted gross income before the deductions are valid or reimbursable. A good tax saving strategy should include keeping good records and all receipts during the year of premiums paid for healthcare and doctor visits as well as prescription drugs. In addition, a person should keep receipts for any medical supplies and over-the-counter drugs. A person who has diabetes will probably have the expense of purchasing supplies to check blood sugar and the cost of the machine unless health insurance pays for them.
Other deductible expenses include union dues at work, subscriptions to magazines or publications related to work, work clothing, safety glasses, uniforms, tools and supplies for work, and medical examines required by work. For those who have these types of expenses it is a good idea to keep records of any of these types of expenses. Work related deductible expenses can provide a tax reduction strategy for someone who itemizes all of their deductions instead of just taking a standard deduction. For it to be beneficial to use itemized deductions over the standard deduction a person would need to have a lot of these types of expenditures during the year.
A person who is looking for a job may deduct expenses incurred while doing so. This might include employment agency fees, career counseling, moving expenses, and any tuition to improve skills to land a job or incurred while in a present job. Using a personal computer at home to job hunt might mean taking a percentage of depreciation expense for the use of that computer. Another possible tax saving strategy includes using any type of equipment or asset to find a job. This might include a cell phone and even utility bills. These expenses can only be figured as a percentage of use and only for job hunting or if a person is self-employed.
Safe deposit rental fees to store investment documents are tax deductible. Paying fees to get taxes done by a tax preparer or professional are usually deductible. Fees for investment counseling or legal fees to keep a job can be deducted from adjustable gross income thus reducing the tax debt. A tax reduction strategy for itemizing deductions should include legitimate expenses that add up to more than a standard deduction. God expects His children to pay their taxes when due. "They say unto him, Caesar's. Then saith He unto them, Render therefore unto Caesar the things which are Caesar's; and unto God the things that are God's" (Matthew 22:21).
Charitable donations can be included as a tax saving strategy when they are legitimate and total a sufficient amount. Any cash donations made to non profit organizations such as churches, or synagogues are deductible. In addition, donations made such as clothing, furniture, and household items can be included. The items should be valued realistically and receipts should be obtained whenever possible. Items that total over a certain amount require receipts from a legitimate non profit organization.
For a person who is self-employed, there are many types of expenses that can be included on itemizations. Using a home to conduct business in can result in legitimate expenses. These might include taking part of the mortgage interest, insurance payments, utilities, repairs, depreciation, computer expense, supplies, and any other type of expense related to the business. In claiming business expenses in the home a percentage of those expenses would be applicable and the percentage would be based upon how much is used for business in comparison with personal. The home office expense would be based upon square footage used for business purposes. Then this percentage could be used to calculate the mortgage interest, utilities, insurance, repairs, and computer usage.