Basic Question about "taxable investment account"

[joenorm]

So I have yet to open a "taxable account" through Vanguard to fund in addition to my IRA. I plan to do so very soon.

My question is this: Taxed money goes into it, but then how and what gets taxed after that? All earnings? at what time? And how is it reported?

Does it essentially get taxed twice?

What about if the account has lost money in a given year?

thanks

[secondcor521]

Usually people deposit money into their taxable accounts and then buy investments inside the taxable account with that money.

Any dividends received or interest earned from those investments is taxed.  Qualified dividends get taxed at a preferential rate.  Capital gains distributions from mutual funds get taxed.  And then if you sell something for more than you paid, the difference between what you received and what you paid - a capital gain - is taxed.  Long term capital gains are taxed at a preferential rate.

All taxable events within the account are summarized to you on Forms 1099-B, 1099-DIV, and 1099-INT.  You'll receive copies of these tax forms in late January each year and copies are also sent to the IRS.  You're expected to report these taxable events on your tax return every April, which will affect the amount you must pay or the amount refunded to you.

Generally speaking, there is no withholding on those taxable events as there is on your W-2 income, so you'll have to plan your taxes so that you have paid enough in each year to ensure you don't have an underwithholding penalty.

The money you put in does not get taxed twice.  Taxes owed are only on the returns you receive from your investments.

Investment losses are tallied on each investment, not the entire account.  So you can buy stock A (Nike, for example) which goes up and stock B (General Electric, for example) which goes down.  If you don't sell, there are no tax consequences.  If you sell at a loss, you can deduct that loss from other gains or your income that year.  You may only subtract a maximum of $3,000 per year in capital losses from income each year; any excess loss gets carried over into future tax years.

The above is a general overview.  There are probably details I left out.

[TheHardenedInvestor]

Short-term capital gains (under 1-year holding period) are taxed as regular income.

Long-term capital gains (over 1-year holding period) are taxed using a separate bracket called the long-term capital gains tax bracket. You can google that bracket for 2019. The bracket limits change based on your tax filing status. You pay those taxes only within the tax year you sell.

Loses are not taxed at all. In fact, you get a tax deduction (up to $3000) for any capital losses within a tax year (i.e. when you sell).

If you never sell anything in a year, gains and losses as they pertain to taxes are not applicable. Your account can just sit there going up or down without any taxable events.

[Frankies Girl]

Dividends and short/long term capital gains get taxed. Even if you reinvest them, they count. Some funds are better about not creating cap gains/dividends, and some throw off tons of them every month/quarter. That is one of the reasons that you should be aware of the tax efficiency of funds you hold in taxable accounts.

https://www.bogleheads.org/wiki/Principles_of_tax-efficient_fund_placement


One category (short term cap gains) may be taxed at regular income rates, while another might be less (for the long term holdings/dividends) but still needs mentioning. But if your overall taxable income - which includes the money you're paid for performing work (earned income) AND stuff like pensions/dividends/cap gains - stays under the zero percentage bracket, you won't pay any taxes on LTCG/dividends. So for a single filer as of this post (end of 2018), that's $38,600, and a married couple can earn up to $77,200 before having to pay a penny on tax for those. Short term taxable brackets are way lower (see the article below), but STCG are usually not generated in great quantities if you're careful about fund selection for tax efficiency.

https://www.marketwatch.com/story/your-simple-guide-to-the-new-capital-gains-tax-rates-2018-04-16


So all that above is if you're just investing and not pulling out/selling off anything from that account. If you do sell funds, you will need to be aware of the cost basis for the quantity of funds you sell. Used to be a real pain in the ass, as you had to manually track this, but as of 2012 or so, financial institutions do this automatically for you. But in any case, when you sell off funds/stocks/whatever held in a taxable account, the taxes owed take into account the amount you paid initially, the difference in what they are worth now, and figure in the taxes paid over the years of dividends/cap gains as well... and it all still is dependent on what taxable brackets whether you'll pay anything.

[RJC]

If you decide to sell after a year after buying at multiple dates, how do they know what the capital gains tax will be? Do they sell the oldest shares first?

[secondcor521]

If you decide to sell after a year after buying at multiple dates, how do they know what the capital gains tax will be? Do they sell the oldest shares first?

There are several different methods for identifying which shares are sold.  Typically when you open the taxable account you can pick a method or there will be a default.

You're describing FIFO (first in, first out), which I think is one of the available methods.  I have mine set to specific ID, where I get to tell them at every sale which shares I'm selling.

[MustacheAndaHalf]

When you buy $1,000 worth of a mutual fund, that $1,000 doesn't get taxed again.  But any additional money you get will eventually be taxed.  One source is dividends, which become part of your tax bill when you receive them.  Another is growth of equities, which are not taxed until you sell them.  With bonds, you report bond income on your taxes.

At Vanguard, "specific lot identification" acts like a menu.  When you sell, you get to decide which purchase(s) correspond with this sale.  If you sell 200 shares, you might pick 100 shares from this year and 100 shares from several years ago.  Vanguard shows all the shares you haven't selected before, and tells you how much growth (or loss) is available.  So you can minimize taxes each time you sell, based on how you match each sale with each purchase.

It may help to put numbers on this.  Right now Vanguard Total Stock Market ETF ("VTI") has a 1.9% dividend.  If you buy $10,000 worth of VTI, over the course of a year you would expect $190 in dividends.  Most people are in the 15% bracket for dividends, so you'd owe $27 tax on the dividends in a year.  The dividend can change, but that's the current information.  Still, it's worth pointing out that $27 is a rather small fraction of $10,000.  When you don't sell, a total stock market ETF (or mutual fund) can be very tax efficient.