What You Should Know About Taxes and Investments?

Deciding to invest is a good way to plan for your future or for the future of your children, but often times it can be difficult to decide what types of investments are the best for you. This is especially true because different types of accounts have different rules in regards to tax laws and penalties.

Here are the most common accounts and a few important tax rules to keep in mind:

Capital Gains Taxes

Capital gains taxes almost always apply to selling an investment for profit. This pertains to almost all mutual fund distributions, sale of stock, and even collectibles. Not all investments have the same tax rate. It will also depend on how long you have owned the investment before you sell it. More often than not, selling an investment within the first year or two will result in high tax rates, upwards of 35%.

If you keep investments like mutual funds and stocks for a longer period of time, it is more likely you will receive a better tax rate, with a maximum of around 15% for the majority of stocks, bonds, and mutual funds.

Keep in mind that some investments will not be taxed, such as the sale of a primary residence that sells for less than $500,000 for joint filers and $250,000 for single filers. Other items, such as collectibles will actually be taxed at a higher rate, upwards of 28%.

Capital Losses

If you have an investment that has seen a loss upon sale and you are facing capital gains taxes, you can claim capital losses, usually up to $3,000 that will be used as a deduction against other types of income, such as your yearly wages. There are special rules that regulate exactly how much you can claim in capital losses, depending on the type of investment. You will also be penalized or have the deduction removed from your tax return if you repurchase the investment within a certain period of it being sold.

Retirement Accounts

Investment account such as IRAs and 401(k) accounts are a great investment for tax breaks, as they provide tax deferred growth. This means you will not have to pay taxes on these investments until they are withdrawn. Many advisors suggest these types of accounts because when withdrawn they can be used to reduce the overall taxable income.

Keep in mind that if you have an IRA or 401(k) that has stocks as part of the investment, these will not receive the same type of tax breaks. These stocks will be taxed at a high rate similar to traditional income at the time of withdrawal or sale.

Additional Investments

You will always pay yearly taxes on investments that see interest, income or dividends. This holds true for income received from land or rental properties as well. This is why many advisors suggest certain IRA or 401(k) accounts that don't impose taxes on yearly interest. Other good investments to consider include municipal bonds, which do not impose taxes for interest each tear. 529 college plans and Health Savings Accounts, for medical expenses through small businesses, also let you invest tax-free until the time of withdrawal.