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What Is a Capital Gains? Definition, Uses and Importance.

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Capital gains are the extra income or money realized from the sale of your capital assets. This means that the difference that exists between the original amount spent on the purchase of the asset and the amount the asset was sold for leads to “capital gains” – especially if the sales price is larger than the purchase price.

There are two main types of capital gains – short-term and long-term capital gains. Its short-term capital gain if the assets were held for up to 1 year or below. However, an asset that was held for 1 year or more will surely bring long-term capital gains. Capital gains apply to any kind of asset and this includes investments that are purchased for personal and business uses.  

The tax rates that you will need to pay at the end of the day depend on the category of capital gains you are operating on. This is why we have the “capital gains tax” – which is the tax you are required to pay according to the profits you made from the sale of an asset that has been held for one year or more. 

Usually, capital gains are attached to an individual’s taxable income. The only difference is that you don’t have to pay highly for it. In the US, this is done to encourage individuals to get into long-term investments. 

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Why is Capital Gains Important?

Capital gains are important because:

  • They stimulate the growth of the economy
  • They reduce double taxation
  • The low taxation encourages investors to sell off their assets more

How are Capital Gains structured?

Generally, capital gains are determined by subtracting the purchase price from the sales price. The outstanding amount of money remaining after all deductions are made is considered capital gains or losses. 

Typically, if you sold your assets higher than the amount you spent while purchasing them, you will have your capital gain. 

As an owner of a house, If you have stayed in the apartment for two years or more, you can be exempted from paying taxes.

Capital Gains and Capital Losses 

There’s a difference between capital gains and capital losses. When you sell off your assets for less than the amount you purchased, the money you lost is termed a capital loss. The federal government income tax return also sees it as a loss. 

The loss incurred during this transaction can be used to pay off your gains when you sell other capital assets that belong to you. By doing this, you can easily reduce the total amount of the tax you were supposed to pay on capital gains. 

Having more capital losses than capital gains in a year means that you can reduce your taxable profit with the losses. Carrying the capital losses forward is a way of reducing the tax you will pay on capital gains in the future.

Lifespan Of Capital Gains

As mentioned earlier, when you sell your capital assets in less than a year of holding them, you are bound to get short-term capital gain out of it. You will be taxed at ordinary rates. 

The long-term capital gains, on the other hand, come as a result of holding your capital gains for a year or more. Taxes here are not ordinary; they can go from 0 to 20%.

How are Capital Gains Used?

A lot of people prefer to use their capital gains by reinvesting in other account schemes that can also yield more gains. In return, you can use this reinvestment as an exemption from the money you have gained. It also means that you don’t have to pay any tax on capital gains. 

If you choose to reinvest the capital gain in an asset that’s similar to the one you sold off, you can successfully dodge paying taxes on the money you gained. 

Ensure that you invest this money You should within the first 180 days or the period specified by your bank – this is the only way you can avoid paying the tax.  Failure to do this might result in your reinvestment capital being treated as capital gains. 

Synonyms for Capital Gains

Other words for capital gains are:

  • Profit
  • Capital income
  • Capital returns
  • Capital profits

Is Capital Gains Limited to Just Wealthy People?

No. as long as you have a capital asset to sell, you are entitled to capital gains and so, are expected to pay capital gains tax. Everything you own can be classified as a capital asset and this includes stocks, big screen TV, jewelry, etc.

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