Short-term capital gains can be a bogeyman for new traders…
Experienced traders know it’s just one more thing to build into your trading strategy.
Remember, we’re not talking investment here. The passive investments that generate long-term capital gains are a different thing…
The strategies I teach with the SteadyTrade Team are active trading strategies. We concentrate on technical analysis in our twice-daily webinars and weekly strategy sessions. The fundamental analysis people do for long-term investments isn’t our focus.
But in this article, we’ll talk about what short-term capital gains are for active day traders … Meaning what they can end up costing you. We aren’t ‘making bank bros’ — we don’t only care about wins.
What we do with the SteadyTrade Team is a holistic pursuit. We’re trying to develop effective trading strategies that can grow with us…
We want to be in this game for years. Some of us end up building a life with our trading. That means taking care of everything along the way. I want you to pay attention to your body, mind, and emotions.
And I don’t want you blowing up your account when it’s time to pay taxes!
Table of Contents
- 1 What’s a Capital Gain?
- 2 Long-Term Vs. Short-Term Capital Gains Taxes
- 3 What Are the Short-Term Capital Gains Tax Rates?
- 4 How Short-Term Capital Gains Taxes Work
- 5 Short-Term Capital Gains Tax on Stocks
- 6 Short-Term Capital Gains Tax on Property Sales
- 7 Are There State Taxes on Short-Term Capital Gains?
- 8 What if I Lose Money?
- 9 The Conclusion on Short-Term Capital Gains
- 10 One Platform. One System. Every Tool
What’s a Capital Gain?
A capital gain is any profit made from the sale of a capital asset. Your home, car, investment properties, stocks, crypto, and collectibles are all capital assets.
Not all capital assets are treated the same way for tax purposes, though. The biggest concession the IRS makes is for primary residences. Individuals can receive up to a $250,000 tax exclusion from the sale of a home. Couples filing jointly get up to $500,000 in tax exclusion.
Investment properties, commercial real estate, and other buildings are taxed at 25%.
Collectibles carry one of the highest capital gains tax rates: 28%! That category includes gold and silver coins and — shocker — gold and silver ETFs.
So, if you have a friend who thinks they’re outsmarting Uncle Sam by stacking gold bars, tell them to think again. Gold and silver ETFs are physically backed by the real thing, which means their shares are considered collectibles.
An advantage stocks have with respect to taxes is that they can allow traders to deduct capital losses. You can’t do that on the sale of your primary home!
You can deduct the whole amount of your capital losses on stocks from any capital gains you’ve made.
And you can even deduct up to $3,000 of capital losses from your other taxed earnings!
Those who qualify for trader tax status (TTS) may be able to deduct even more. TTS is an IRS tax classification geared toward part-time and full-time traders.*
As you can imagine, capital gains can make a huge difference to your bottom line.*
Long-Term Vs. Short-Term Capital Gains Taxes
Short-term capital gains refer to profits made on a security held for one year or less.
Long-term capital gains refer to profits made on, you guessed it, securities that you hold for longer than one year.
The difference in tax treatment between long-term vs. short-term capital gains is major.
(Although, keep in mind that the difference might change with the Biden administration’s plan to increase capital gains tax rates … But more on that later.)
Short-term capital gains are taxed on the level of your regular income. And that doesn’t include the 3.8% in extra income tax that certain high-income earners are tagged with…
The long-term capital gains tax is relatively small in comparison. In many cases, long-term capital gains are taxed at half the level of short-term capital gains … Even if you’re in the highest tax bracket, you pay only 20%. That’s less than the income tax for the second-lowest tax bracket.
And it doesn’t include the proposed increase of the highest tax bracket to 39.6%.
Like I said, we’ll get to the Biden administration’s proposed changes to tax rates later … but keep that in mind. It’s worth considering whether they’ll work for your trading strategy.
What Are the Short-Term Capital Gains Tax Rates?
How much do you pay on short-term capital gains?
With President Biden in office, this question may get more complicated.
Now, anyone who regularly listens to me knows I don’t like to talk politics…
But we can’t ignore what happens when there’s a Democratic president. Taxes usually go up.
Bryce riffs a bit on this in the clip above … and actually, I think it helps. There’s a lot to think about here. It’s good to talk it out.
In short: the latest proposal by the Biden administration includes up to a 43.4% short-term capital gains tax rate. This isn’t set for 2021, but the new budget includes it.
And part of the plan is making the new short-term capital gains tax retroactive to April 2021. This was the month it was first announced.
Now, I don’t mean to scare you. If you’re reading this, you probably don’t fall into this top tax bracket…
The top bracket in the new plan only applies to households with an income of $1 million or more per year. That’s just 0.3% of American households.
If you’re part of this segment, you probably don’t need me to tell you how to pay your taxes!
Households earning less than $400,000 a year shouldn’t see any capital gains tax rate increase at all. That is, unless they sell enough stock to bring their income level over that mark for the year…
So, do your homework and pay attention … This can impact your bottom line if you’re not careful. Not sure about any of it? Find yourself a good CPA.
How Short-Term Capital Gains Taxes Work
There are many possible scenarios for taxing short-term capital gains on stocks … but for most of us, they’re taxed as earned income.
Let’s look at a totally hypothetical example. Say you’re single and you make $40,000 a year at your job. That puts you in the 12% tax rate bracket…
In 2021, the cut off for this bracket is $40,525. The next tax bracket is taxed at 22%…
Now, add on $10,000 in short-term trade gains for the year. This is treated just like regular income.
Altogether, you’re now at $50,000 for the year. Your $40,000 income is taxed at the 12% rate…
But your $10,000 trade profit falls almost entirely in the 22% tax bracket.
Compare this to a $10,000 long-term capital gain. This falls in the middle tier, so it would only be subject to a 15% tax.
Brutal. This is why you need to know this stuff. And again, that’s just an example. Hit up a professional in your area for more information.
There’s more info on the IRS website.
How to Calculate Short-Term Capital Gains Tax on Stocks
How are short-term capital gains calculated?
We did a rundown on the best short-term capital gains tax calculators here.
What you need to remember is to track your trades — all your trades! Do it accurately … It’s important for potentially taking advantage of exemptions.
The IRS has a special tax category for day traders … And if trading is your full-time job, you can potentially deduct expenses just like any other sole proprietor.* Don’t take my word for it, though. Consult a local tax pro with that kind of thing.
But come tax time, especially if you get serious about your trading, you may be able to write off your investments in your education and trading equipment. Accounting software is one expense that traders may be able to deduct.*
That’s different from your trading platform — another expense you could potentially deduct.*
And if you’re looking for a great trading platform, of course I recommend StocksToTrade.
StocksToTrade is a powerful trading software that integrates with most major brokers. It’s designed by traders for traders.
You know what that means? No more navigating clunky legacy software. No more clicking between multiple windows to check on breaking news. StocksToTrade has it all right there!
And there’s so much more you can use this platform for, like:
- Clean and customizable charts
- Trader-designed stock scans
- A powerful news scanner with breaking news, Twitter mentions, and earnings reports
- Your choice of add-on curated educational alerts
StocksToTrade has changed the way I trade. Grab your 14-day trial today — it’s only $7!
Short-Term Capital Gains Tax on Stocks
I won’t belabor the point.
Short-term is calculated at the same rate as your regular income…
It’s not ideal, but it’s the cost of doing business.
You need to concentrate on the things you can control in trading. Taxes aren’t in that category!
So focus on what you can control, like your process. This is what I teach on the SteadyTrade Team.
Every morning, before the market opens, in the first of the trading day’s webinars, I break down what I see. I also run a percent gainer scan to see what’s moving…
What we bring to the day’s action is good knowledge of market conditions … and a conservative game plan.
Crawl before you walk — that’s what we do on the SteadyTrade Team.
Our chat room is one of the most collaborative spaces on the internet. It’s also a space for mentorship. I answer questions and go deep when needed.
At market close, we have the day’s second webinar. We discuss what went wrong and what went right.
And we have weekly strategy sessions — and more. Join us! Sign up for the SteadyTrade Team.
Short-Term Capital Gains Tax on Property Sales
This is an interesting angle on the new capital gains taxes because of a tax reform that affects a tiny percentage of the population — those with all the money!
Let’s think it through though … If the market isn’t a good place for long-term investing, what is?
Real estate? Sure, if real estate gets hot, capital gains on property could rise just as high as other capital gains taxes. Some angles make real estate interesting…
The main one is the $500,000 tax exclusion we touched on before. Now, this only applies to a primary residence … but it just has to be your primary residence for two out of the past five years.
There’s a demo out there that might take to this pretty well. But it wouldn’t be great for the stock market. Less market participation means less liquidity.
If the capital gains tax hikes go through, they could make a few dominos fall. Let’s not get ahead of ourselves yet.
Are There State Taxes on Short-Term Capital Gains?
A lot of people forget this part … Depending on where you live, state taxes can add to your short-term capital gains bill.*
Most states have some form of capital gains tax. A number of these states also have some form of exclusions…
In some states, the short-term capital gains rate is the same as the rate for long-term capital gains. California is the worst of the bunch, tacking on up to 13.3% to the federal bill.
States also design their own income brackets for these additional penalties. And they can get steep pretty quickly.
Let’s look at California again. The 9.3% tax bracket starts when you make over $58,634 if you’re single. That’s inclusive of regular earned income!
If you earn just $60,000 in income and short-term capital gains, the top slice of that income is taxed at over 30%!
At the other end of the scale are Alaska, Florida, Nevada, New Hampshire, South Dakota, Tennessee, Texas, Washington, and Wyoming. These states have a 0% capital gains tax.
There are another 19 states that allow some play when it comes to capital gains. Some let you deduct federal taxes from state taxable income. Others have special tax treatment of capital gains income.
But there’s still a good number of them that will smack you when it comes to tax time. So you need to do your homework and pay attention!
I must remind you that I’m not your CPA, and you shouldn’t take any of this as tax advice.*
I’m reminding you that when it comes to taxes, it’s complicated. You’re better off figuring it out before you spend your profits.
What if I Lose Money?
Declaring capital losses is one potential path toward reducing your tax bill.*
Capital losses are any realized amount you lose on your investments.
This can get a bit funky with real estate … But it’s pretty straightforward with stocks.
You can probably deduct up to $3,000 of realized losses from your taxed income if you’re single or married filing jointly. This number may be $1,500 for married people filing separately.
What happens if you make both capital gains and losses? That’s simple — just deduct the losses from your gains.
If you have an overall loss greater than $3,000 for the year, you should be able to deduct the leftover in the future. This is called a ‘capital loss carryover.’
There’s no limit on this carryover. This can be useful for offsetting capital gains in future years.*
Here’s another hypothetical … Say you lose $20,000 in one year. You can claim $3,000 as capital losses that year, then carry over the remaining $17,000.
The next year, you make $8,000 in capital gains. You can offset the entire amount with your carryover so that you’d pay no taxes on these gains.
You’d still have $9,000 to offset gains in future years. You can also declare $3,000 of this amount as capital losses in years with no gains.
The Conclusion on Short-Term Capital Gains
Short-term capital gains are part of life for active traders.
Sure, they’re a pain in the butt. But that’s life, and they shouldn’t come as a surprise.
Your trading education needs to cover the whole process. Understanding your tax bill is part of becoming a self-sufficient trader.
Still want to trade? Good!
Join me on the SteadyTrade Team. There’s enough good stuff there to make it worth the hassle.
What are your questions about short-term capital gains? How does this might affect your trading style? Let me know in the comments!
*This communication doesn’t establish a professional relationship for accountancy, tax advice, legal, or any other professional service. Any information presented in our communication with you (including, but not limited to, website content, social media content, video content, printed material, audio content, emails, or any other content) regarding any issues should not be construed as advice as it pertains to tax matters, legal matters, or any other matters. Always consult the advice of a professional licensed in your state or jurisdiction before making decisions on tax or legal matters.