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I've been investing for a while, and have some long investments that will incur capital gains tax. It started to make me think about how to avoid getting taxed and I came up with a solution that I'm not sure works. Capital gains in the U.S. are based off your ordinary income tax bracket. If you are in the 10%-15% tax bracket you will effectively pay 0% in capital gains.

See here for capital gains rates: http://www.moneychimp.com/features/capgain.htm

Assuming you can afford to not have any ordinary income for a year, say you have a decent chunk in savings. Your tax bracket would now fall into the the lowest, making your capital gains rate for that year 0%.

Knowing this, if you sold your assets during a year where you had ordinary income in the lowest bracket, you could avoid all capital gains.

Am I missing something? Or is this a real solution?

  • Yes, you have a real solution. But reflect that you don't have any capital gains until you sell the investment, a decision (Sell or Hold) that you get to make. Of course, if the investment is a mutual fund instead of a stock, the fund may pay you a capital gains distrbutiion annually that you cannot avoid. (Selling the fund before the distribution does not help; you merely get the capital gains based on the sale price (which factors in the expected capital gains distribution). – Dilip Sarwate Sep 13 '17 at 19:39
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Yes, you could avoid capital gains tax altogether, however, capital gains are used in determining your tax bracket even though they are not taxed at that rate.

This would only work in situations where your total capital gains and ordinary income kept you in the 0% longterm capital gains bracket. You can't realize a million dollars in capital gains and have no tax burden due to lack of ordinary income. You can potentially save some money by realizing capital gains strategically.

Giving up income in an attempt to save on taxes rarely makes sense.

  • Thanks for the answer. Unfortunately this wouldn't make sense to do in my case then. – Brice Aldrich Sep 13 '17 at 19:51
  • @BriceAldrich Yep, they've got it covered pretty well, typically best to make as much as you can, and realize gains when you need/want to rather than trying to game the system, there are times when you can save a little, so good to keep it in mind, but no windfall potential. – Hart CO Sep 13 '17 at 19:57
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It's correct.

Be sure of your personal opportunity cost and not that you're letting the tax tail wag the dog just to score "tax free". Your upside is $3,700 (single) or $7,000 (married) in taxes saved until you're out of the 0% zone. Is that worth not receiving an income?

Even if your savings are such that you don't need to work for income for a fiscal year, how would this affect the rest of your career and lifetime total earning prospects? Now, maybe:

  • it's the right time for you for grad school, training, or volunteering
  • you're close to retire early, in which case, you have all kinds of asset management games to play using your scenario as a tool in the early years to prepare your assets for:
    • a decision in the range of age 62-67 regarding early or delayed social security payments,
    • your expectations for 401k and traditional IRA required minimum distributions at age 70.5 (if you have these accounts, after age 70.5 you must receive ordinary income from them; depending on value, you may be out of the 0% zone)
    • what you intend to gift to charity as stock (meaning, you don't personally incur the capital gains income at all),
    • what you intend to leave in your estate for your heirs to enjoy the step up in basis
  • you ever wanted to take a pile of capital and burn it in a game of startup roulette (on a business model that does not anticipate profit in the first year, of course), go for it.

Otherwise, I'd hope you have solid contacts in your network who won't be fazed by a resume gap and be delighted to have a position open for you in 2019 (and won't give you the "mother returning to the workforce" treatment in salary negotiations).

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