Capital gains are attracting renewed attention from the IRS for tax year 2011. The introduction of Form 8949 is where individual transactions are reported, along with detailed information on how cost basis was determined.
Capital gains and losses is an area that offers great tax planning opportunities since in many situations you control when the gains and losses will be realized.
Capital losses can be currently deducted to the extent of capital gains plus $3,000. Any nondeductible losses are carried over to future years.
Sometimes taxpayers will want to maintain their investment in a stock or mutual fund while taking a tax loss when their values are down. This can be done by selling the investments and waiting 31 days before repurchasing them again.
An alternative strategy for those wanting to stay invested is to sell the stock or fund and immediately buy a similar stock or fund, e.g., sell Exxon and buy Chevron.
Long-term capital gains are generally taxed at the lower rates of zero to the extent that the taxpayer is in the 10-percent and 15-percent bracket, and 15-percent for income falling into the higher brackets.
A long-term capital gain occurs when an asset has been held for more than one year. These special rates are due to expire at the end of 2012 unless Congress renews them.
However, higher rates apply to the recapture of depreciation when selling business or rental assets and collectibles. You will want to discuss situations involving these with a tax professional.
Bad debt rules are often misunderstood. Business bad debts are reported on Schedule C and must arise from cash actually loaned out or amounts previously included in income. Nonpayment of expected income does not qualify.
Non-business bad debts are reported as short-term capital losses and may be deducted only in the year that they become worthless. There are steps you must take to establish the worthlessness of the obligation and documentation that needs to be attached to your tax return.
An important tax benefit we can receive is when appreciated assets are inherited. The cost basis is reset to the fair market value at the date of death. This rule has been in effect for more than 20 years and Congress renewed it again for 2011-2012.
For 2010 only, you had the choice of sticking with the original basis if you accept the phase out of estate tax for this one year. If electing the no estate tax option for 2010 it was possible to step up assets to a limited extent.
When one of two joint owners dies, his or her half of the asset receives a step-up in cost basis. Many married taxpayers hold title to assets as community property, since when one spouse passes on, the property receives a 100% step-up in cost basis.
Sometimes when a person has a terminal illness they will gift their residence or other property to relatives to simplify their affairs. To do so can create a large future income tax liability for the heirs since the tax benefit of a step-up in cost basis will be lost.
A living trust is one way title can be passed on without probate while still preserving the step-up in cost basis.
Once we get past the election, Congress will decide whether to renew the Bush tax cuts with their preferential capital gains tax rates and whether to extend the estate tax-provisions established for 2011-2012.
Their discussions will have a serious impact on capital gains.