Understanding Capital Gains Tax

I think that finance is one of those worlds that is almost impossible to completely understand unless that's why you go to school. There are so many different terms in the finance realm and often they are so similar yet slightly differentiating in important ways—ah! Capital gains tax is one of those terms that in essence is just another tax the government imposes, but it's just slightly different from other taxes and it's the differences that are important to understand.

Capital gains tax is basically a tax on the profit you make on an investment item. When, for example, you have a stock that makes it big and you want to sell it and collect the dividend, you have to pay tax on your dividend. When you do receive such a return, you're actually legally obligated to report that gain to the government, otherwise you'll be guilty of tax evasion!

Other gains that qualify for capital gains tax are loss carryovers, profits from installments, home sales, like-in-kind sales, exchanges, commodity straddles, estates, trusts, undistributed capital gains, and revenue from investments. You should know that the tax rate for long term gains is actually lower than other tax rates for income and the like, so that does work in your favor. Other more short term investments have the standard tax rate, so if you want to reduce your capital gains tax, you might want to consider going for longer term investments. The current tax rate for long term investments is 15 percent and is set to expire in 2010.

The United States is unlike other countries in that you must report any income you gain with any investment regardless of where in the world you earn it. If you fail to report any income you've made, then you're technically evading taxes and that's definitely not a good thing.

You can defer or reduce your capital gains trust however by donating it to a charity (which you can then itemize on your tax return, allowing you to have that money back) or by setting up a structured sales annuity. Capital gains tax is one of the more frustrating taxes and one that you can never quite avoid, but you can take steps to reduce those taxes. Hopefully you understand capital gains tax just a little bit more and now go out and pay your taxes!