Cracking The Stock Market Tax Code
Have you ever felt overwhelmed by the rules around how your stocks are taxed?
Let's break it down and make it as simple as possible.
When it comes to stocks, you basically have two types of taxes:
1. Paying Tax on Profits from Selling Stocks
First, you have to pay tax when you sell a stock and make money on it. The key point is that only the money you make (your profit) is taxed.
Imagine you buy a stock for $10. Later, the stock is worth more, and you sell it for $30. The profit you've made is $20 ($30 sale price minus $10 purchase price). This $20 is what you'll pay tax on, not the total amount you received when you sold the stock.
2. Paying Tax on Dividends
The second type of tax comes into play when you receive dividends, which is the money that some companies give to their stockholders. The whole amount of the dividend is taxed, even if you use it to buy more of the company's stock.
However, the amount of tax you pay on dividends can vary. It depends on whether the dividend is "qualified" or "non-qualified."
Qualified Dividends: These are dividends from U.S. companies or some foreign companies. They're taxed at a special rate, which is the same rate used for long-term capital gains (more on that below).
Non-Qualified Dividends: These are dividends that don't meet the criteria to be qualified. They're taxed like regular income.
Long-Term vs. Short-Term Capital Gains
Let's go back to the profit you make when you sell a stock (also known as capital gains). The tax system divides these gains into two categories:
Long-Term Capital Gains: If you own a stock for more than a year before selling it and making a profit, your profit is considered a long-term capital gain. The tax rate on this profit can be anywhere from 0% to 20%, depending on how much money you make in total.
Short-Term Capital Gains: If you sell a stock less than a year after buying it and make a profit, your profit is a short-term capital gain. This type of gain is taxed like regular income, which can be as high as 37%.
Understanding how your stocks are taxed can help you keep more of your investment earnings. Happy investing!
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I recently put together a master list of 88 different ETFs designed to support different investment goals. You can grab it here.
And as always: Buy things that pay you to own them.
-Josh
Blog Post: #119
