The IRS 1040 Tax Return's Schedule D reports the taxpayer's financial gains (profits) or losses from the sales or other dispositions of capital assets. Below are a few Schedule D stipulations, definitions, and pointers that can help in completing the form, along with some general information about capital gains on the taxpayer's house.
What is a Capital Asset?
A capital asset is almost everything the taxpayer owns or uses for personal purposes, pleasure, or investment, such as:
- Stocks and bonds
- Family home
- Household goods
- Car, boat, or motor home
- Coin, stamp, or other collections.
- Gems and jewelry
- Gold, silver or other metals
- Certain copyrights
Typical Capital Gains and Losses Reported on Schedule D include:
- Sales or exchanges of stock and other securities
- Sale of residence
- Non-business bad debts
- Capital gains distributions
- Foreclosures
Who must file an IRS 1040 Schedule D Form “Capital Gains and Losses”?
A taxpayer’s filing status or whether or not s/he itemizes has no bearing on the requirement to use a Schedule D. Any capital gains and losses from the sale or trade of capital assets must be reported by the taxpayer on the Schedule D.
The only exception is if the taxpayer's only capital gains are those distributions listed on any Form 1099-DIV s/he received. Those amounts can be entered directly in Box 2a of the IRS 1040. However, if any 1099-DIV has any amounts listed in Boxes 2b, 2c, or 2d, a Schedule D will still be required.
Short-term vs. Long-term Holdings
Capital gains and losses are categorized as short-term or long term, and the distinction affects how they are taxed. Short-term means the asset's holding (owning) period is a year or less, and long-term means over a year.
There are exceptions to the holding rules. For some assets the actual time held is inconsequential for tax purposes. For instance:
- All non-business bad debts are always treated as short-term losses
- All capital gain distributions are considered long-term
- All inherited property is treated as long-term
Basis vs. Adjusted Basis
To calculate a capital asset's gain or loss, the taxpayer has to know the “basis” of the asset. Basis means the investment in the asset. While in many cases it’s simply what the asset cost, in others it’s the “adjusted” basis. Adjusted means the value of the asset has been increased or decreased in some way. The basis or adjusted basis is the amount subtracted from the amount obtained for the asset when sold to determine if there’s been a gain or a loss.
Basis of Gifts or Inherited Assets
If the taxpayer gets any capital asset as a gift, s/he should record what its basis or adjusted basis was before receiving the gift, the property’s fair market value (FMV) when the gift was received, and the amount of any gift tax paid. When the property is sold, those factors determine the basis.
The basis for inherited property is generally the FMV of the property on the day the decedent died, or the FMV on an alternate date set by the estate’s personal representative.
Basis in a House
For homes purchased or built, the cost is the basis. A home's basis however often becomes an adjusted basis. For example, making improvements to the home increases the basis, while deductions taken for casualty losses decrease the basis.
Basis in Stocks and Bonds
Basis in securities is generally their purchase price plus commissions and other fees. For securities not purchased by the taxpayer, the basis is usually the FMV or the previous owner’s adjusted basis. Certain events, such as a stock split, alter the basis and the transactions’ circumstances determine how it is calculated. Mutual funds also have their own specific basis rules.
Capital Gains on a Primary Residence
Taxpayers who realize capital gains on their primary residence (main home) may exclude up to $250,000 of the gain in their reportable income ($500,000 if married and filing jointly), provided they meet certain requirements such as “ownership and use tests.” Generally they have to have owned and lived in the home for at least two years of the previous five years ending on the sale date.
Any amount exceeding the exclusion will have to be reported on Schedule D. If the amount they made on the sale does not exceed the exclusion, they don’t need to fill out a Schedule D or report the sale in any way on their IRS 1040. But unfortunately, while losses on capital assets are generally deductible, any loss on a primary home is not deductible. Sorry.
Capital Losses
If a completed Schedule D shows a net capital loss, the taxpayer can take a tax deduction. The allowable amount is the lesser of $3,000 ($1500 if filing MFS) or the net loss shown on the Schedule D. This amount will be subtracted from the taxpayer’s gross income on the Form 1040, and will reduce his/her taxable income - a tax benefit.
Any loss amounts exceeding the annual deduction limit can be “carried over” to future tax returns until it is used up. However, if a taxpayer dies before the loss carry-overs are used up, the taxpayer’s estate cannot use them up
Avoiding Capital Gains Taxes – A Tax Tip
There are ways to avoid capital gains taxes. One option reported in The New York Times March 24, 2010, by Jan M. Rosen “A Financial Report Card, Right in Your Tax Return,” suggested when a Schedule D showed only gains, the taxpayer should consider selling any losing stocks, instead of hanging onto them like most people do. Capital losses offset capital gains taxes, and money realized in selling losers could be reinvested and perhaps get better returns.
Tax Help – Schedule D Instructions and Other Venues
Detailed Schedule D instructions are on the IRS website. Taxpayers are also advised to see IRS Pubs 544 and 550. The latter has a filled-in example of Schedule D. Capital gains and losses are often very complex, and beg the help of a tax expert and possibly a tax lawyer. This article hardly covers the tip of the iceberg.
Sources:
J. K. Lasser Institute. Your Income Tax 2010. New York: John Wiley and Sons, Inc., 2009.
Thompson Reuters. Quickfinder Handbook: Form 1040 2008 Tax Year. Ft. Worth, Texas: Thompson Reuters, 2008.
Barbara Jezior - My career paths include Research Psychologist, Technical Writer/Editor, Food Expert, and Professional Tax Preparer.
