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I understand the LTCG tax rate depends on your taxable or "ordinary" income. So, if I'm single, and I work a day job in 2022, and I made less than $41,675 in my day job, the tax rate for my LTCG is 0%.

Now consider hypothetically my current day-job salary is $41,675, and my boss wants to give me a $1 bonus. If I take the bonus, my taxable income becomes $41,676. Does this mean my capital gain tax rate jumps to 15%? So, the bonus would actually hurt me?

Please note this question focuses on the "ordinary income", in contrast to the related but different questions here and here.

jack
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2 Answers2

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Does this mean my capital gain tax rate jumps to 15%?

No. That's not how the bracket works.

Let's do a simple example. Let's say you have $30,000 taxable income and $20,000 in long term capital gains.

The difference between your taxable income and the 15% tax bracket threshold is tax free. You pay no taxes on the first $11,675 of your capital gains.

You pay 15% on the amount by which your combined income exceeds the threshold. That's $8,325 and your long term capital gains tax is 1,248.75.

The more regular income you make, the more of your long term gain are pushed above the threshold. If you make one more dollar, one more dollar becomes taxable and you pay $0.15 taxes on it

Hilmar
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  • To clarify "$30,000 taxable income and $20,000 in long term capital gains", is the 20K LTCG part of the 30K taxable income (so 10K other income)? littleadv suggests in the other answer it is, so just making sure I follow. – jack Oct 30 '22 at 02:55
  • No. Total income is 30k "ordinary" + 20k "long term capital gains" = 50k. The tax calculation ONLY calculates the tax on the 20k capital gains. In addition you still have to pay taxes on the 30k ordinary income. – Hilmar Oct 31 '22 at 02:11
  • Thanks, this makes sense. – jack Oct 31 '22 at 10:07
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I understand the LTCG tax rate depends on your taxable or "ordinary" income.

That is incorrect. LTCG tax rate depends on your taxable income. Not "ordinary", taxable. Capital gains are included in the taxable income.

Consider someone who has no earned income but has millions in capital gains - would it make sense to you that they pay no taxes?

See the IRS Tax Topic 409 and the publications it links to.

littleadv
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  • Ah, I see. Correct me if I'm wrong, but for someone with no earned income and only LTCG, their first $41,675 still generates no tax - only amounts beyond that gets taxed at 15-20%, and so it seems that it's never the case you'd be worse off by making an extra dollar. – jack Oct 29 '22 at 06:51
  • @jack capital gains are not taxed by marginal rates, so yes - there most definitely could be a case where you'd be worse off by making an extra dollar. It's the totality of income that counts, not just "ordinary" or whatever you want to call it. This blog explains several such cases: https://www.kitces.com/blog/long-term-capital-gains-bump-zone-higher-marginal-tax-rate-phase-in-0-rate/ – littleadv Oct 29 '22 at 06:59
  • Thanks for the link. Just to make sure I understand you - I'm correct on "$41,675 still generates no tax - only amounts beyond that gets taxed at 15-20%"? (But I'm obviously incorrect for the "worse off" part.) – jack Oct 29 '22 at 07:25
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    @jack if capital gains is your only income then yes. But it's added on top of your other income for the bracket calculation – littleadv Oct 29 '22 at 15:52