20th Aug 2019

What is Capital Gains Tax?

When a person acquires an asset and sells it, the difference between the original price and the selling price is called capital gains. Tax is levied on this gain since it is considered as a taxable income.

Capital gains tax can be applicable to several different types of assets such as shares of stock, real estate property such as land, and even a business. A lot of factors of the tax are dependent on how long the asset was held before selling.

Long-Term Capital Gains Tax

This is the tax levied on profits from the sale of an asset which was held for more than a year. The rates of long-term capital gains tax include 0%, 15%, and 20% depending on the filing status and taxable income of the seller. These are normally lower than short-term capital gains tax rates.

The rates are as follows:

  • If the seller’s income ranges from $0 to $39,375, then the tax rate is 0%.
  • If the seller’s income ranges from $39,376 to $434,550, then the tax rate is 15%.
  • If the seller’s income ranges from $434,551 or more, then the tax rate is 20%.

Short-Term Capital Gains Tax

When it comes to short-term capital gains tax, the asset would have been sold less than a year after it was acquired by the seller. The rates are equal to the seller’s income tax rate or tax bracket.

It is important to note that the rules on capital gains tax can be very different for sales of homes.

Tax Basis

In order to further understand capital gains tax on estate planning, it is also important to grasp the concept of tax basis. This is the value used in order to calculate the taxable gain when the asset is sold.

In normal circumstances, the tax basis is the amount paid by the owner for the asset. So, if the property was purchased at $100,000, then the basis is $100,000. If the property is sold the following month at $120,000, the taxable capital gain is $20,000.

However, tax basis is different if the person did not purchase the asset such as if they inherited it. According to the laws of California, in cases such as this, the tax basis would be the value of the asset based on the previous owner’s date of death. In this scenario, if a person inherits a house his or her mother with the value of $100,000 at the time of her death, then the tax basis of the property is $100,000. It does not matter whether the original tax basis was different.

In the example above, this is what’s known as stepped-up tax basis since it became higher from the previous basis. However, tax basis can also be stepped-down in cases wherein the asset’s value goes down at the time of the person’s death as compared when it was purchased. In either case, the important factor here is the time of death of the person rather than the original value paid for the asset.

Cases of Joint Tenancy

In cases where a property or asset is held by two owners under joint tenancy, only half the value would be stepped-up in case one of the owner’s die. For example, if a couple owns a house that is worth $200,000 and the original price, they paid for it is $150,000. If one of them dies, the surviving owner gets a stepped-up tax bases of only half of what he or she inherits. This is because the surviving owner already owns the other half so that tax basis stays the same. This means the new tax basis is $175,000 instead of $200,000.

Community Property

When it comes to community property however, both halves of the community property owned by the couple together gets a stepped-up tax basis when one of them dies. This means the sole owner would be left with a tax basis stepped-up to $200,000 based on the example above.

Should you have any questions regarding estate planning, please contact us at Tompkins Law at 1-714-385-0044. Our staff is experienced in these matters and will assist you with any concerns you ma

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