There is much said and written in the news about the long-term capital gains rate, that it is preferential and biased toward the uber wealthy. That is a political and philosophical call, but I would point out it is also preferential toward plain folk too, but only if you own and sell a capital asset for a gain. If you have recently sold or are contemplating the sale of property and expect to realize a gain, to determine if you might qualify for a lower and preferential tax rate on the sale of your property, you first need to understand what a capital asset is, the way you calculate the gain, and when it qualifies as long-term. First let’s understand what is meant by the sale of a “capital asset.”
Tax law doesn’t define what a capital asset is, it defines what it isn’t. The Internal Revenue Code states, “…the term “capital asset” means property held by the taxpayer (whether or not connected with his trade or business), but does not include—“
Here is a short list of what is not considered a capital asset.
- Inventory or property primarily for sale to customers in the ordinary course of a trade or business;
- Property used in a trade or business that can be depreciated. This is generally personal property like automobiles, office furniture, equipment and real estate;
- A copyright, a literary, musical, or artistic composition, a letter or memorandum, or similar property that the taxpayer’s personal efforts created;
- Accounts or notes receivable acquired in the ordinary course of a trade or business for services;
- Any commodities derivative financial instrument held by a commodities derivatives dealer (with some exceptions);
- Certain hedging transactions;
- Supplies used or consumed by the taxpayer in the ordinary course of a trade or business of the taxpayer.
If it’s not listed above, then there is a good chance your property is a capital asset. However, I modified and shortened the list and therefore, when in doubt, you should do your own due diligence or ask a CPA if your property might qualify as a capital asset.
Keep in mind that to qualify for a preferred long-term capital gain rate, there are a few more rules where compliance is required. Next I will discuss the rules you need to know to correctly calculate your capital gain…or loss.