How To Save Money On Stock Investment Taxes : 8 Proven Strategies
- Posted on December 06, 2019
- Editors Pick
- By admin admin
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Taxes are capable of eating up a large chunk of investment
gains. Investment strategies to minimize your tax bill should be used to manage
this. It is however important not to make investment decisions for the sole
purpose of reducing tax burden.
Below are eight strategies that can be used to minimize your
stock tax bill and save money.
1. Contributing to tax-advantaged accounts
This is the simplest and most effective
way to save on taxes and it involves putting as much of your money as you can
in tax-advantaged accounts. These include:
· 401(k)s,
· individual retirement accounts
(IRAs), and
· health savings accounts (HSAs).
You can only open an HSA if you have
a high-deductible health insurance plan.
Traditional 401(k)s and IRAs are
tax-deferred accounts. You can contribute pre-tax income up to a yearly limit.
This essentially means that you don’t pay income tax on the money you invest.
Your investment grows tax-free, and you only pay taxes when you make a
withdrawal.
Presently, the yearly limits are
$19,000 for a 401(k) and $6,000 for an IRA. HSAs are also tax-deferred, and you
don’t pay taxes on withdrawals for qualified healthcare expenses.
2. Losing investments should be sold by the end of the year
Investments that have lost value will
lower your tax liability. You must report the losses on your taxes, but you can
carry losses forward indefinitely and use them any year that you like.
For instance, if you want to deduct
your losses from your taxable income, there’s a limit of $3,000 per year.
There’s no limit on how much of your previous losses you can deduct from future
capital gains. If you lose $15,000 on investments in 2019, and sell those
investments before the end of the year, you’ve “locked in your losses.”
3. Keep winning investments for at least one year
There are two types of capital gains
tax. Short-term capital gains tax applies to investments that are sold after
less than one year. Long-term tax applies to investments you sell after one
year or longer. Short-term capital gains tax is the same as your income tax
rate, whereas long-term capital gains tax is 0%, 15%, or 20%, depending on your
household’s income. Long-term capital gains tax will almost always be the lower
of the two rates. For that reason, aim to keep winning investments for a year
or more (unless you believe it’s going to dip in value soon).
4. Invest in municipal bonds
Municipal bonds are issued by cities,
counties, and states to raise money for public projects. Municipal bonds pay
interest twice a year. These bonds are useful because they’re exempt from
federal taxes. When you purchase municipal bonds issued in your state of
residence, they’re also exempt from state and local taxes. While the average
return on municipal bonds isn’t near the average you’d get from the stock
market, these are low-risk investments that earn money without adding to your
tax burden.
5. Hold on to Your Stocks for long term periods
Another good argument for the
buy-and-hold strategy is that short-term capital gains (less than one year) are
always taxed at a higher rate than long-term ones. The difference between the
tax rates of long-term and short-term capital gains can be 13% or more in some
states and countries. When you consider the long-term effects of compounding on
reduced income taxes incurred today, it can prove beneficial to hold onto your
stocks for at least one year.
6. Always match Your Profits/Losses
In many cases, it is a good idea to
match the sale of a profitable investment with the sale of a losing one within
the same year. Capital losses can be used against capital gains, and short-term
losses can be deducted from short-term gains. Also, if you have a particularly
bad year, you can carry $3,000 of your loss over to future years. This may seem
counter-intuitive, but it works very well.
7. Reinvesting Dividends
Reinvesting dividends, by increasing
your investment in a fund, effectively reduces your taxable gain. For instance,
if you originally invested $5,000 in a mutual fund and had $1,000 in dividends
reinvested in additional shares over the years. If you then sold your stake in
the fund for $7,500, your taxable gain is $1500 ($7500 less than the original
$5,000 investment and the $1,000 reinvested dividends).
8. Write-Offs
For investors who invest in small
business ventures or are self-employed, there are many operating expenses that
can be written off. For example, if you take business trips during the year
that require you to obtain accommodations, the cost of your lodging and meals
can be written off as a business expense, within specified limits dependent
upon where you travel. If you travel frequently, forgetting to include these
types of seemingly personal expenses can forfeit a lot of tax savings.
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