How Does the IRS Treat Stocks?
Taxes for stocks are straight-forward; that’s intentional, none of it is an accident.
They’ve created two words you’ve likely seen on a brokerage statement before:
- Realized gains
- Unrealized gains
Why are they called ‘unrealized’ gains? You haven’t actually made any money on it yet. The money you made is only real when the equity, or stock, is traded in for cash. When you sell your stock, whether it’s some or all of it, that becomes realized.
You only pay tax on profits you made on realized gains.
At the end of the year, all your realized gains and your realized losses are tallied up and you’ll either have a capital loss or a capital gain at the end of the year.
If you have a capital loss or made no money, you don’t need to worry about paying taxes (you might be able to write some stuff off depending on your circumstance). If you never sold your stock, you also don’t need to worry about paying taxes.
If you do have a capital gain, then you either have something called a short-term capital gain (stock you held for under a year) or a long-term capital gain (stock you held for over a year). These two capital gains are treated differently. As you can expect, the longer you hold your stock, the nicer the IRS is toward you.
Basically, this is following the tax structure for your income. Here are a few examples of how you might use this chart (this is for long-term capital gains, follow the same pattern for short-term capital gains):
- Your filing status is single. You made a $40,000 capital gain (long-term) on your stock sale. At the end of the year, you owe the federal government no money.
- Your filing status is single. You had a job that paid you $40,000 in income. You also made a $40,000 capital gain (long-term) on your stock sale. At the end of the year, you have to pay 15% of $40,000 to the federal government. Here your capital gain is acting as an extension of your income. Because of that, it is tacked on to the next bracket.
- Your filing status is single. You had a job that paid you $30,000 in income. You also made a $40,000 capital gain (long-term) on your stock sale. At the end of the year, you have to pay 15% of $30,000 to the federal government. Notice where you don’t pay anything on the first $10,000 you made on your capital gain. This is because you had room left in that marginal bracket because your income was lower that year. The portion you did have to pay for was the remaining $30,000.
This is obviously excluding the regular taxes you pay (or don’t have to pay depending on your payroll structure) on your own income you get from working. It’s just to demonstrate how capital gain and income are viewed by the government so that you can better understand when you might want to sell your stock (like, in a year where you aren’t making any or much money).