As the year wraps up and you start to have income clarity it’s a good time to consider if you can benefit from the 0% long-term capital gains tax rate. This 0% rate can be especially helpful for early retirees, young adults with gifted assets, or employees on sabbatical. In this article we’ll cover the taxable income thresholds and a few real life examples we’ve helped execute for clients.
Who qualifies for 0%?
The 0% long-term capital gains rate applies to US tax payers who have taxable income under a certain threshold. This amount is after the standard deduction and is applied at the following income levels:
So a single filer who makes $50,000, and then claims the standard deduction of $14,600, would have taxable income of $35,400. This person would then be eligible to take $11,625 worth of long-term capital gains and pay zero tax. We had two specific cases this year where clients were able to benefit from this threshold, both involved inheritances.
In one case, an early retiree received inherited assets that had some embedded gains. We were able to take all of the capital gains and reinvest the proceeds. This eliminated future tax liability that may have accrued from the existing assets continuing to rise. By reinvesting the assets in the market, we restarted the client’s cost basis at much higher levels. Effectively, the tax liability disappeared.
In another example a young worker who was under the single filer threshold was able to tap into about $5,000 worth of liquidity without incurring any tax.
Other ways to take advantage of the 0% threshold
Another way to help get yourself eligible for the 0% threshold is to use 401(k) or IRA contributions to reduce your taxable income. For example, a married couple with $150,000 in gross earnings could reduce their taxable income down to $110,000 if each person contributed $20,000 into their 401(k). The standard deduction of $29,200 would then bring their taxable income down to $80,800. This would leave them eligible to take $13,250 worth of long-term capital gains at a 0% tax rate.
If this couple has invested in a taxable brokerage account, they could implement a tax-gain harvesting strategy. They could then use those gains to replace the cash flow they lost from their 401(k) contributions, or reinvest the proceeds and restart at a higher cost basis.
Or, if you happen to be one of the lucky people each year who is receiving a gift from parents or grandparents, consider asking if you can receive that gift in the form of stock. You’ll obtain the original cost basis from the giftor but still be able to qualify for the long-term capital gains rate, provided you are under the income threshold and the giftor had held the stock for more than one year.
Check your tax return
The easiest way to see if you might be eligible for the 0% long-term capital gains rate is to check your last year’s tax return, and then account for any changes in income this current year. The IRS form 1040 will show your total income on line 9 but then your taxable income on line 15. Line 15 is the one that determines your income for the purposes of qualifying for the 0% capital gains rate.
The table below can help you determine if you might be eligible for the 0% long-term capital gains rate:
As always, we recommend working with a tax professional to be absolutely certain that you qualify for the 0% long-term capital gains rate. And if you are an existing client, be sure to mention this to us. Even if you don’t “need” the money, there is a tax advantage to realizing gains at 0% while you can, and just reinvesting to restart your cost basis at higher levels. You can’t control the market, but you do have some control over your taxes… so make smart moves when you can!
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