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Become a Tax Ninja

Like most people, you’re protective of your investment gains—especially right now, when new policies threaten to gnaw away at your returns. Some tax rates on capital gains and income jumped higher, and there’s also that new Medicare surtax to contend with.

Fortunately, there are a few smart ways you can shield investment gains from unwanted tax incursions. First, a look at what’s new.

Strategies to Reduce Capital Gains Tax

The all-new investment tax

The Net Investment Income Tax is called many things—surtax, excise tax, Medicare tax—but by any name this new levy could cost you an additional 3.8% of your investment profits. Part of the Affordable Care Act, the tax applies to “net investment income”—which includes most but not all kinds of investment income, from capital gains to taxable bond interest and dividends—and it comes into play when your adjusted gross income (AGI) exceeds $200,000 for singles or $250,000 for married couples filing jointly.

If you’re in that category, you’ll owe the 3.8% extra tax on either your net investment income or the amount by which your income surpasses those thresholds, whichever is less. If you can defer noninvestment income into next year so that you can stay under the AGI threshold, you’ll avoid owing that extra tax.

Capital gains rate creep

That new tax isn’t the only risk to investment profits. There’s also the one-year dividing line between short-term capital gains, which are taxed at ordinary income rates, and long-term gains, which merit lower rates. But now the stakes are higher. Make a profit on the sale of an investment you’ve owned for a year or less and you could lose as much as 39.6% of that short-term gain if you’re in the highest tax bracket—compared with a top rate of 35% on such gains as recently as 2012.

Meanwhile, under the old rules, profits on sales made after one year qualified as long-term capital gains and had a much more palatable top rate of 15%. That remains the case for most people.


It's important not to make big changes in your financial plans just to save a few percentage points in tax.

But now there’s a 20% rate for long-term gains if your taxable income exceeds $400,000 as a single tax filer or $450,000 if you and your spouse file jointly (a higher rate applies to collectibles and depreciation recapture, as before).

Yet even if your gross income pushes you over those thresholds, you could be safe. That’s because “taxable income,” calculated after you subtract deductions and personal exemptions, is often considerably lower than your adjusted gross income.

A tax-reducing strategy

To deflect taxes, first do everything possible to knock down taxable income. That could include deferring income, stalling profitable stock sales or accelerating deductions.

It’s important not to make big changes in your financial plans just to save a few percentage points in tax. But if it’s a matter of moving a transaction up or back a few days, that difference in timing may sometimes be enough to save you a bundle. Here’s an example.

Suppose a philanthropically minded salesman earns $420,000 in 2014. He has promised to give his alma mater a $25,000 gift in January. But if he writes the check in late December instead, a deduction for the gift will drop his income below the new capital gains threshold, and he’ll pay 15%, not 20%, on any long-term capital gains he realizes on security sales in 2014.

Two defensive strategies

To reduce what you owe, you might consider these helpful tax provisions.

  • The 0% capital gains rate. Taxpayers in the lowest two brackets—singles with $36,900 or less in taxable income and couples with taxable income of $73,800 or less in 2014—pay no tax at all on long-term capital gains. And while you may make too much to qualify, your kids may not.

Suppose your daughter is safely under those thresholds. You might give her appreciated stock instead of a cash gift; she could then sell the shares with no tax liability. That’s a lot wiser than your selling the stock to generate the cash for the gift—and giving up as much as 23.8% on your profits, assuming you owed the top 20% capital gains rate plus the 3.8% surtax.

Bear in mind that this strategy is viable only if your child is on her own and you no longer count her as a dependent on your tax return. Also, keep in mind that for gift tax purposes you can only give $14,000 per individual in 2014 (or $28,000 per recipient for spouses splitting gifts) without dipping into your lifetime gift tax exemption.

  • The tax break for charitable gifts. Here, too, you can avoid paying capital gains tax by giving away stock that has gained in value. If you’ve held the shares for more than a year, you get to deduct their full value on your tax return (limited to 30% of your adjusted gross income, with a five-year carryforward for any unused deduction). And because the charity is tax-exempt, the organization won’t pay capital gains taxes if it sells the stock.

As Benjamin Franklin once noted, there are only a couple of things that are certain in life, and taxes are one of them. But with some forethought and planning, you have some say over how much you really need to pay. 

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Important Disclosures

The information provided here is for general informational purposes only and should not be considered an individualized recommendation or personalized investment advice. The tax strategies mentioned here may not be suitable for everyone. Each investor needs to review their own particular situation before making any investment decision.

All expressions of opinion are subject to change without notice in reaction to shifting market conditions. Data contained herein from third-party providers is obtained from what are considered reliable sources. However, its accuracy, completeness or reliability cannot be guaranteed.

Examples provided are for illustrative purposes only and not intended to be reflective of results you can expect to achieve.

This information is not intended to be a substitute for specific individualized tax, legal, or investment planning advice. Where specific advice is necessary or appropriate, Schwab recommends consultation with a qualified tax advisor, CPA, financial planner or investment manager.


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