Luminola | E+ | Getty Images
It’s natural to fixate on portfolio losses, especially with the S&P 500 down more than 20% for the year.
But you may still have gains after years of growth, and the profits could qualify for a 0% tax rate, depending on your earnings.
The thresholds may be higher than you expect — even six figures of joint income for a married couple, financial experts say.
Many investors think of two rates for long-term capital gains, 15% and 20%, explained Dale Brown, board chair at Salem Investment Counselors in Winston-Salem, North Carolina, which ranked sixth on CNBC’s 2022 FA 100 list.
But there are actually four rates — 0%, 15%, 20% and 23.8%, with the 3.8% surcharge for higher earners. “I’ve had clients with low six-figure incomes who paid no taxes,” Brown said.
Here’s how: The rates use “taxable income,” calculated by subtracting the greater of the standard or itemized deductions from your adjusted gross income, which are earnings minus so-called “above-the-line” deductions.
For 2022, you may qualify for the 0% long-term capital gains rate with taxable income of $41,675 or less for single filers and $83,350 or less for married couples filing jointly.
While a couple making $100,000 may assume they don’t qualify for the 0% long-term capital gains bracket, Brown said investors need to crunch the numbers.
For example, let’s say a retired couple has $30,000 in tax-exempt interest, $25,000 of regular income and $75,000 in long-term capital gains and dividends. Their gross income is $100,000 since it doesn’t include the tax-exempt interest.
After subtracting the standard deduction of $27,000, they’re left with $73,000 in taxable income, falling within the 0% long-term capital gains tax bracket for 2022.
Even if a couple’s taxable income is above $83,350, part of their earnings may still fall into the 0% long-term capital gains bracket, Brown said.
Let’s say the same retired couple had $30,000 in tax-exempt interest, $25,000 of regular income and $100,000 in long-term capital gains and dividends.
In this case, their gross income is $125,000 and taxable income is $98,000. Since the $27,000 standard deduction exceeds the $25,000 of regular income, the $98,000 is entirely long-term capital gains and dividends.
This means $83,350 is taxed at the 0% rate and the couple owes 15% long-term capital gains taxes on the remaining $14,650.
“That’s the benefit of the 0% bracket,” Brown said.
When the stock market is down, many investors focus on tax-loss harvesting, or using losses to offset other profits.
But you may also explore harvesting gains if your assets are still up from previous years, said Cory Robinson, vice president and portfolio manager at Tom Johnson Investment Management in Oklahoma City, which ranked No. 30 on the FA 100 list.
“The benefit is there are zero taxes, whether it’s dividends or capital gains” as long as you’re below the taxable income threshold, he said.
For investors in the 0% bracket, it’s possible there’s a chance to reduce taxes on future profits.
Since taxes are based on the difference between the value upon sale and original purchase price, you can sell the profitable asset and repurchase to increase the purchase price.
“That’s the beauty of taking gains: You can immediately reinvest,” Robinson said, explaining how investors don’t need to worry about the so-called wash sale rule.
Although the wash sale rule blocks harvested losses if you buy a “substantially identical” asset within the 30-day window before or after the sale, the same rule doesn’t apply to gains, he said.
Whether you’re selling assets for income or leveraging a long-term tax strategy, there may be opportunities to harvest gains during lower-earning years, Brown said.
For example, there may be an income gap if you retire but don’t immediately receive Social Security, a pension or withdrawals from pretax retirement accounts, he said.
You may also have lower taxable income during a year with a temporary job loss, Brown said.
“The most important thing is the timing,” Robinson added, explaining how it’s critical to estimate your taxable income before attempting to harvest gains.