How Are Investments Taxed?

Taxes can be a mess, but fortunately taxes on investments aren't too complicated. There are two main sets of tax rates you want to remember: you have your ordinary rate, which is what you pay on your salary, and then there is what's called the capital gains rate.

Capital gains are taxed at a lower rate than normal income, and this varies with your income tax bracket. For 2017, up through the 15 percent bracket you actually pay zero capital gains taxes. Above that through the 35% bracket your capital gains are taxed at 15 percent, and if you're at that top 39.6 percent bracket, you're paying 20 percent in capital gains tax.

That alternate bracket predominately comes into play when you have Long-Term Capital Gains, which mean you hold an investment for at least a year and then sell it at a profit. It also comes into play when you have Qualified Dividends. Beyond that, most other investment related income like Short-Term Capital Gains, Interest Income, and Non-Qualified Dividends are all taxed at your ordinary tax rates.

Now there are some ways of investing that help you shield income from taxes, at times even completely. For instance, in a traditional IRA and a 401(k), the money you invest in them isn't taxed until you withdraw it, and then it will all be taxed as ordinary income. Conversely, a Roth IRA uses after-tax contributions for your investments, but when you withdraw that money all of the growth is completely tax free. A couple of other cool options are Health Savings Accounts for medical expenses and then 529 Plans for college expenses, both of which offer some serious tax savings.

That's the basics of taxes on investments, so from here you want to try to plan your investing so that as much of your income as possible takes advantage of the capital gains rate, or better yet, is totally tax free.

For more details on capital gains taxes, visit https://www.irs.gov/taxtopics/tc409.html