Author Topic: Confused about long term capital gains  (Read 995 times)

juliette

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Confused about long term capital gains
« on: July 24, 2019, 02:38:24 PM »
Hello,
I have not submitted my 2018 tax forms to the IRS yet. I was not in a rush because normally I overpay taxes through paycheck deductions. Now that I am gathering my paperwork, I am very confused about long term capital gain distributions. I have a taxable account with Vanguard (VWIAX). I opened this account less than two years ago after selling my house. The 2018 tax document shows

Total ordinary dividends $14,856.14
Qualified dividends $5,232.46
Total (long term) capital gain distribution $19,243.31

1.   What is long term capital gain distribution? How is it calculated? I tried to take the difference between what I had in the account at the beginning of the year and the end of the year, but I get much less than $19,243.31.
2.   What are qualified dividends? I have Roth IRA with Vanguard, but the dividends from that are much less that the number above.
3.   Am I responsible for paying taxes on $34,099.45? ($14,856.14+$19,243.31) I am judging from Vanguard’s report. Looks like I am not getting a big tax refund this time. It is the opposite – penalties.
4.   Would this amount ($34,099.45) be included into MAGI for ACA purposes?
If you know answers to any of these questions, please let me know. Thanks in advance!

PathtoFIRE

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Re: Confused about long term capital gains
« Reply #1 on: July 24, 2019, 03:31:07 PM »
Based on your numbers, it appears that you have around 8000 shares, or just under $500k in this fund. Based on Vanguard's website for this fund your numbers look relatively accurate.

1. This is capital gain realized by the fund itself, and "distributed" to current owners based on the number of shares (see this from Vanguard). You didn't get an actual distribution, it's just that the fund couldn't offset capital gains in it's own buying and selling. Most of the mutual funds I have, like VTSAX, rarely if ever show this, but VWIAX has different goals and is run differently. Looks like there was a much smaller gain in 2017, along with a very small short term realized gain.

2. Qualified dividends are dividends for which you pay 0%, 15%, and/or 20% tax rates [i.e. lower rates than ordinary income], depending on your tax bracket. The non-qualified dividends taxes are paid just like earned income.

3. $14856.14-$5232.46 = $9623.68 of those dividends will owe taxes at your marginal rate. The LTCG and qualified dividends ($24475.77) will owe taxes at either 0%, 15%, or 20% (possibly +3.8% if you owe net investment income tax) depending on what your marginal tax rate is for each dollar of these (meaning if you are right near a bracket transition, some could be paid at a lower rate, and some at the higher).

4. I believe that these are added to your MAGI, for ACA purposes, but am not absolutely sure about this.

terran

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Re: Confused about long term capital gains
« Reply #2 on: July 24, 2019, 03:54:58 PM »
1) When someone sells a mutual fund the mutual fund must sell shares of the underlying stocks to raise the money to give the seller their money. Selling stock often results in realizing gains which are then distributed to all remaining shareholders of the mutual fund.

2) Here's a good description of qualified dividends: https://www.fidelity.com/tax-information/tax-topics/qualified-dividends. Basically, it has to both with how long you have owned the mutual fund, and how long the mutual fund has owned the underlying stock before/after the stock issued a dividend. Qualified dividends and long term capital gains receive preferential tax treatment while non-qualified dividends and short term capital gains are taxed the same as regular income.

3) Yes, you're responsible for paying tax on $34,099.45 ($14,856.14+$19,243.31), but since qualified dividends and long term capital gains are taxed at lower rates (see https://www.nerdwallet.com/blog/taxes/capital-gains-tax-rates/) you may owe less or no tax on $24,475.77 ($5,232.46+$19,243.31), and you'll owe tax at your normal marginal tax rate on the remaining $9,623.68 ($14,856.14-$5,232.46) non-qualified dividends.

4) Yes, I believe all capital gains and dividends are included in ACA MAGI (among other MAGIs) even if the qualified dividends and long term capital gains are in the 0% tax bracket.

It's usually not recommended to hold funds of funds like VWIAX (or target date funds) in a taxable account because, as you're seeing, they tend not be very tax efficient.

It looks like in 2018 VWIAX had a capital gains distribution of $2.52160 indicating that you have 19,243.31/2.52160 = 7,631.388 shares. I get a slightly different number of shares if I add up last years dividends and divide your dividends by that, but that's probably because you have dividends being reinvested. That just means the 7,631.388 shares is what you had at the end of the year when the capital gains distribution happened, not what you had earlier in the year. I'm too lazy to do the math to figure out what you had at the beginning of the year.

Given yesterday's close of $64.94/share times 7,631.388 shares the current value is $495,582.34 (you probably have a bit more now given dividend reinvestment for 2019). The Vanguard total stock market index closed yesterday at $74.55, so you could instead own $495,582.34/$74.55 = 6,647.65 shares of VTSAX. Last year VTSAX had no capital gains distributions, and dividends of $1.263/share, so you would have had total dividends of $1.263 x 6,647.65 = $8,395.98. This is actually slightly high, because you didn't actually own that many shares for the first three dividend payments (that didn't happen until the end of the year), but it's close enough to see the point. Do you own math. There were lots of numbers flying around there, so I might have messed something up.

Now, obviously you shouldn't go from VWIAX with its 60% bonds to 100% stocks, but that difference in "forced" realized income from the two funds shows why the usual recommendation is to hold bond funds in tax advantaged accounts and stock funds in taxable accounts. You can learn more about that here: https://www.bogleheads.org/wiki/Tax-efficient_fund_placement

juliette

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Re: Confused about long term capital gains
« Reply #3 on: August 17, 2019, 08:14:39 AM »
Hello,

I am writing to thank you both sincerely for your detailed and very helpful responses to my post. Your calculations are accurate. I understand this concept better now. VWIAX will work for my situation better than VTSAX. I plan to quit my job within one or two years. I plan to live on my savings until I qualify for pension (approx. 10 years). My main concern is health insurance. In order to get subsidies, I need to have ACA MAGI of at least $27K (I have 2 young children). I am also more comfortable with lower risk of VWIAX. I still have not done my taxes, but will get it done soon. Again, thanks for your advice!