Loading the player...

What is 'Capital Gain'

Capital gain is a rise in the value of a capital asset (investment or real estate) that gives it a higher worth than the purchase price. The gain is not realized until the asset is sold. A capital gain may be short-term (one year or less) or long-term (more than one year) and must be claimed on income taxes.

BREAKING DOWN 'Capital Gain'

While capital gains are generally associated with stocks and funds due to their inherent price volatility, a capital gain can occur on any security that is sold for a price higher than the purchase price that was paid for it. Realized capital gains and losses occur when an asset is sold, which triggers a taxable event. Unrealized gains and losses, sometimes referred to as paper gains and losses, reflect an increase or decrease in an investment's value but have not yet triggered a taxable event.

A capital loss is incurred when there is a decrease in the capital asset value compared to an asset's purchase price.

Tax Consequences of Capital Gains and Losses

Tax-conscious mutual fund investors should determine a mutual fund's unrealized accumulated capital gains, which are expressed as a percentage of its net assets, before investing in a fund with a significant unrealized capital gain component. This circumstance is referred to as a fund's capital gains exposure. When distributed by a fund, capital gains are a taxable obligation for the fund's investors.

Short-term capital gains occur on securities held for one year or less. These gains are taxed as ordinary income based on the individual's tax filing status and adjusted gross income. Long-term capital gains are usually taxed at a lower rate than regular income. The long-term capital gains rate is 20% in the highest tax bracket. Most taxpayers qualify for a 15% long-term capital gains tax rate. However, taxpayers in the 10% and 15% tax brackets would pay a 0% long-term capital gains tax rate.

For example, say Jeff purchased 100 shares of Amazon stock on January 30, 2015, at $350 per share. Two years later, on January 30, 2017, he sells all the shares at a price of $833 each. Assuming there were no fees associated with the sale, Jeff realized a capital gain of $48,300 ($833 * 100 - $350 * 100 = $48,300). Jeff is in the 25 to 35% tax bracket, so his tax rate for this long-term capital gain is 15%. Jeff should, therefore, pay $7,245 in tax ($48,300 * .15 = $7,245) for this transaction.

Capital Gains Distributions by Mutual Funds

Mutual funds that have accumulated realized capital gains throughout the course of the year must distribute those gains to shareholders. Many mutual funds distribute capital gains right before the end of the calendar year.

Shareholders of record as of the fund's ex-dividend date receive the fund's capital gains distribution. Individuals receiving the distribution get a 1099-DIV form detailing the amount of the capital gain distribution and how much is considered short-term and long-term. When a mutual fund makes a capital gain or dividend distribution, the net asset value (NAV) drops by the amount of the distribution. A capital gains distribution does not impact the fund's total return.

RELATED TERMS
  1. Capital Loss

    A capital loss is the loss incurred when a capital asset that ...
  2. IRS Publication 564: Mutual Fund ...

    IRS Publication 564: Mutual Fund Distributions is a publication ...
  3. Tax Selling

    Tax selling refers to a type of sale in which an investor sells ...
  4. Capital Tax

    Capital tax is a tax on a corporation's taxable capital, comprising ...
  5. Capitalization

    Capitalization, in accounting, is when the costs to acquire an ...
  6. Unrealized Gain

    An unrealized gain is a profit that exists on paper, but has ...
Related Articles
  1. Taxes

    Capital Gains Tax 101

    Find out what a capital gain is, how it is calculated, how taxes are applied to your investment returns and how you can reduce your capital gain tax burden.
  2. Investing

    How Tax-Efficient Is Your Mutual Fund?

    Learn about factors that influence the tax-efficiency of your mutual fund, how income from your investment is taxed and what to look for when choosing a fund.
  3. Investing

    Expect Big Capital Gains from These Funds in 2016

    Investors in actively-managed mutual funds should be prepared for big capital gains in 2016 and the tax hit that comes with them.
  4. Investing

    Why Some Investors Have to Pay Taxes on a Loss

    Here's why some investors need to pay capital gains taxes even if they haven't sold any funds or made any portfolio changes—and how to combat it.
  5. Taxes

    Capital Losses and Tax

    Capital losses are never fun to incur, but they can reduce your taxable income. Knowing the rules for capital losses can help you maximize your deductions and make better choices about when to ...
  6. Investing

    7 Year-End Tax Planning Strategies

    Do you have a capital loss that could be booked and used to offset future tax liabilities? If so, it may be time to sell.
  7. Investing

    7 Tips for Tax-Managed Investing

    Use these seven tips to reduce the tax impact on your taxable portfolio.
  8. Financial Advisor

    How to Dodge Big Tax Hits on Your Portfolio

    An investment plan that helps clients minimize related tax hits adds even more value to an already well-thought out strategy. Here are some tips.
  9. Financial Advisor

    Top Tips for Deducting Stock Losses

    Investors who know the rules can turn their losing picks into tax savings. Here's how to deduct your stock losses.
  10. Investing

    Will A New Fund Manager Cost You?

    Learn how a change in leadership could mean more taxes for you.
RELATED FAQS
  1. How often do mutual funds pay capital gains?

    Find out how often mutual funds distribute capital gains income, including the basics of how mutual funds work and why frequent ... Read Answer >>
  2. Is there a difference between capital gains and dividend income?

    Selling something for a profit leads to capital gains. A payment made by a corporations to stockholders is a dividend. Both ... Read Answer >>
Trading Center