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This is a question about the United States tax code, and in particular about the demarcation between brackets for long term capital gains. I recognize that the specific cutoffs and tax rates are subject to change.

I think my question will be clearer if I construct an example. So:

Let's take it as given that for a single taxpayer, the highest capital gains rate is 20% , and this kicks in at $441,450. Let's suppose that I am that single taxpayer, that I have ordinary income of $100,000, and that I have a long term capital gain of $600,000.

Which of the following scenarios is correct (ignoring all sorts of minutiae like adjusting for qualified dividends, etc.)?

a) Of that $600,000, $158,550 (the excess of my capital gain over $441,450) is taxed at 20%.

b) Of that $600,000, $258,550 (the excess of my capital-gain-plus-income over $441,450) is taxed at 20%.

c) None of the above.

WillO
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  • If I come back to it I'll make an answer of filling it out, but page 16 of the IRS instructions for Schedule D has a worksheet that you can fill out to answer your question: https://www.irs.gov/pub/irs-pdf/i1040sd.pdf – user662852 Jun 17 '21 at 19:51
  • Also keep in mind the Net Investment Income Tax which will effectively make 20% approach 23.8%. – Craig W Jun 18 '21 at 00:49
  • @Craig W : Yes, I'm aware of this, though it was among the minutiae I chose to abstract away from. Thanks for making sure I remembered it, though. – WillO Jun 18 '21 at 00:59

1 Answers1

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The answer is (b), with a few caveats. Your marginal rate for capital gains starts at the bracket based on your taxable (not ordinary) income. So if your taxable income after deductions is $100k, then your math for option (b) is correct. When your taxable income plus capital gains hits the bracket threshold, the remaining capital gains are taxed at that marginal rate.

So $341,450 of your capital gains are taxed at the rate below 20% (e.g. 15% in 2021 for single filers), and $258,500 of your capital gains are taxed at 20%.

D Stanley
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  • Thanks. This is very clear. Unless someone chimes in to say it's completely wrong, I expect I'll soon accept it. – WillO Jun 17 '21 at 21:11