President Joe Biden unveiled a plan to increase capital gains taxes on Wednesday, and the numbers have supported government statements for some time: Unless you’re making a lot of money, you probably won’t feel a direct impact from the proposed changes.
However, if you make more than $ 1 million a year, listen.
Under the proposal, the highest income tax rate would return to 39.6% (from 2013 to 2017) from the current 37%. Along with this increase, the Biden government’s plan would impose taxes capital gain – Profits from the sale of certain assets or investments – at the same rate as the normal income of households earning more than $ 1 million, and that is where the greatest change would occur.
Currently, the country’s highest earners typically pay a capital gains tax of 20%. If Biden’s proposal gets through Congress, that rate would almost double to 39.6%. And that doesn’t include the 3.8% net investment tax that would apply to some or all state capital gains taxes that would be added on top of federal tax.
According to the Biden administration, very few Americans would feel the effects of a rise in the federal government: just under 0.3% of US households make more than $ 1 million a year.
Investors using a 401 (k) – one of the most common investment vehicles in the country – are particularly unaffected by the proposed changes for a specific (and extremely beneficial) reason, says Serina Shyu, certified financial planner and advisor at Delta Community Aging and Investment Services .
“Your average person who has amassed most of their wealth on a 401 (k) plan shouldn’t worry about this particular proposal because capital gains taxes don’t apply to qualifying retirement plans like 401 (k),” Shyu said in one Email interview.
Simply put, if this proposal gets into law and it still does, considering it has to come through Congress as it is, the capital gains component is unlikely to affect the vast majority of US investors .
But if this affects the wider market, should I sell now?
Firstly, this increase is far from certain, so we need to see how the proposal plays out.
“This is just a suggestion and Congress will definitely adjust this proposed percentage as the two chambers compromise on the final version,” Shyu said.
In addition, basing a financial decision on a politician’s plan is probably not a sound strategy. For the majority of investors, the headlines and block Sticking to an investment game plan is an unbeaten strategysays Michael Murphy, managing partner of the venture capital firm Rosecliff Ventures and finance correspondent for Fox Business Network.
“Investing and staying invested in the broader market, one S&P 500 low-cost index fund says, has always worked,” says Murphy. “And regardless of where the taxes go, that strategy will still work.”
Yes, the market fell when news of the proposal got around a week ago, but the S&P 500 was back in service the following day, closing at a new high on Thursday, the day after Biden’s speech. In which case, panic selling could have resulted in that profit being missed.
Capital gains tax management for the rest of us
Even if Biden’s suggestion doesn’t concern you, it doesn’t mean you should forget about capital gains taxes altogether. Here are a few things to keep in mind.
Think long term
There is a huge difference between long-term and short-term capital gains taxes, and this is an area of taxation that you are firmly in control of. Generally, if you can hold an asset for at least a year, you are eligible for the long-term capital gains tax rate. That said, if you were making $ 40,400 to $ 445,850, you would be paying 15% on capital gains. However, if you sell before holding a year it will be taxed at your regular income tax rate which, if you are making more than $ 40,525 per year, is over 22%.
Patience is a virtue, but in the world of capital gains taxes, patience pays off too.
Use tax-privileged investment accounts
If you’re on your employer’s 401 (k) plan, kudos – you already are. Favored tax accounts such as 401 (k) s, individual age accountsHealth savings accounts and 529 college savings accounts allow your investments to grow in a deferred or tax-free manner.
To be clearer, if you sell investments in these types of accounts, you are unlikely to owe any capital gains taxes.
Let a robo-advisor do it for you
Automated financial advisors or robo-advisors will handle many confusing aspects of portfolio management for you, from choosing your initial investments to automatically realigning them over time. And many will even employ smart tax strategies like harvesting tax losses, which is a fancy name for selling investments that have gone down in value to offset the profits of those that have gone up. The strategy is helpful, automatic, and available to many Robo-Advisor.