How to Minimize Tax on Capital Gains

Benjamin Franklin once said that there are only two certainties in life: death and taxes. As uplifting as that may be, he did have a point. Taxes are a part of life for most of us in this world, but they need not (always) take a huge chunk of the money in your pocket.  

When it comes to your capital gains, there are a few things you can do to maximize your profit and minimize the taxes. Capital gains, you’ll remember from my previous article, refer to any profit from a capital asset (such as stocks, bonds, or property). If you get more for it than you initially paid, you’re looking at a capital gain. If you get less than you paid, it’s a capital loss.

NOTE - This information is meant as an introduction only. Please discuss with a professional financial advisor or accountant before making any major decisions. Laws and rules may vary (slightly or a great deal) depending on where you live.

Just Wait

A capital asset may have unrealized capital gains, meaning you have not actually sold it yet (but you know, for example, that the stock is now worth more). Whenever possible, hold off on selling these assets. An unrealized gain is not taxed. Yes, there’s a chance that the gain may disappear while you hold it (the stock value drops, to continue with our example), but that shouldn’t be the only factor influencing your decision. If you’ve done your homework on the asset, it should be something that you believe in keep it for the long haul. As a rule of thumb, you should buy and hold.

Avoid Short-Term Gains

All gains are not created equal. Any asset held for less than one year is considered short-term. Anything held longer than one year is long-term. Generally speaking, capitals gains are taxed at different rates depending on the holding period. Short-term gains are often taxed at your regular income tax rate, while long-term gains are usually taxed at a lower rate. Selling a capital asset at a profit that you have owned for LESS than a year will likely result in a higher cut going to the taxman. If you can wait until after the one year threshold, do so.

Control Your Gains

You can minimize your gains (which sounds counter-intuitive) using selective selling. Keep meticulous records of purchase dates and acquisition costs at all times. For example, you might have stock in the same company that you bought at different times for different prices. Be selective when deciding which to sell...some of them may be short-term assets (higher tax rate), while others are long-term (a more favourable tax rate). You may have paid a higher price for some of them, reducing your capital gain amount. Be specific at the time of sale about which assets you are selling to take advantage of those differences (talk to your broker or financial advisor). Check out Identifying Shares You Sell for more details.

Donate Securities to Charity Rather Than Cash

You can donate various securities (stocks and bonds) to charitable organizations instead of a simple cash amount. This is especially useful for securities with a capital gain, as you eliminate that amount of tax but also get a donation tax credit at the same time (in addition to helping out your fellow human beings and feeling good about that).  

Coordinate Big Gains and Losses

Whenever possible, it’s a good idea to have large capital gains and losses in the same tax year, as you can use one to offset the other (providing they are both short-term or both long-term). This helps to reduce the total amount. You definitely want to avoid having big losses the year after big gains, as capital losses can be carried forward, but not back. Think and plan ahead.

Capital Gains Reserve

Use a capital gains reserve if it is available to you. If the proceeds from a capital gain are metered out or directed to you over a period of 2-5 years, you can spread the capital gain (and any taxes owed as a result) over the same period.

Increase Your Capital Basis

When determining the acquisition (or purchase) cost of a capital asset, you can generally add fees (broker, lawyer, etc.) and improvements over time (to a property, for example) to give you the overall capital basis. One word of warning, though...improvements are classified as anything that adds value, prolongs the assets useful life, or adapts it to a new function. Repairs and maintenance are not part of this equation. If you paid for a new roof and added a downstairs bathroom in your home, those costs could be added to the purchase price of the property. If you paid $300,000 for the property, and sold it for $325,000, you’ve got a capital gain of $25,000. That said, you can add the cost of the new bathroom ($6500) and roof ($3000) to the capital base (making the total $309,500), which reduces your gain (and therefore tax owing) to $15,500.

Check Out Your Available Tax Breaks

Every country is going to tax capital gains differently (if at all), and each will have various tax breaks and incentives (such as an exemption up to $500,000 of Capital Gains and Your Home Sale in the US). It is definitely worth checking out the specific rules and regulations in your home country).

You want capital gains. They mean more money in your pocket (at least in theory), but they do require a bit of forethought and planning if you want to keep as much as possible. It’s not rocket science, but you’d be wise to speak to a professional to really maximize them in your favour.


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