‘Taxes are usually an afterthought:’ GameStop’s wild ride will leave some investors with a huge tax bill

‘Taxes are usually an afterthought:’ GameStop’s wild ride will leave some investors with a huge tax bill

Attention Wall Street Bettors: The taxman is coming for your

Though stocks like GameStop

and AMC

are currently surging to new heights, powered by support for the stocks on retail-investor forums like Reddit’s WallStreetBets, it’s uncertain how the surge will play out in the end.

By Thursday afternoon, Texas-based video-game retailer GameStop shares were up more than 1,200% while shares of the AMC movie-theater chain were up more than 375% year to date on a day when Robinhood restricted trades on the two companies.

Here’s what is certain: You will be taxed on your gains — those are the so-called “tendies” for anyone uninitiated to WallStreetBets-speak — and there’s only so much of a loss you can write off for tax purposes.  

“It’s been an odd week and a half,” said Galen Herbst de Cortina, a financial planner who founded Buff of Finances, a firm catering to professional video-game players.

Some of these aficionados play the market too. Now, his clients and people following Herbst de Cortina’s Twitter

gaming feed are “talking about the same thing,” — what to make and whether to get involved in stocks like GameStop.

Some of Herbst de Cortina’s clients ask him if it’s “completely crazy” for them to spend money in the market now (he advises them to only use wha they are comfortable losing) while others have been asking him about the tax implications.

When it comes to investment ideas, “taxes are usually an afterthought, though usually they should be more part of the decision-making process,” Eric Bronnenkant, head of tax at Betterment, a robo advisor.

Investment decisions don’t need to be pegged to tax implications, he said, but at least knowing the rules, such as when more favorable tax rates apply, can help an investor proceed.

Whatever happens with stocks like GameStop and AMC, many new investors are already poised to get an up-close and personal look at tax treatment on trading.

Beginning Feb. 12, people can file their income taxes on their earnings in 2020. During that time, consumers opened more than 10 million new brokerage accounts, according to the Wall Street Journal.  By now, brokerage firms should be distributing the tax paperwork account holders will need for the upcoming tax season, Herbst de Cortina said.

Of course, tax rules on the sales, gains and losses occurring right now will only apply in next year’s tax season. But here are key points to keep in mind:

Tax rules if you turn
a profit

If you turn a profit on your trades, the feds are going to
want a cut. How much they’ll take depends on how long you’ve held the asset
before the sale.

So suppose you buy and sell one buzzy stock within one year. That counts as a short-term capital gain and it’s taxed as ordinary income. Ordinary income is taxed on the sliding rate scale depending on what you earn in a year, running from 10% to 37%.

But if you sell that stock at least one year after you buy it, the long-term capital gains rate applies. And it’s a lot lower.

There’s 0% rate if you’re single and make under $40,400 a year, and it’s $80,800 a year for a married couple filing jointly. After that, it’s 15% for income limits up to $445,850 for individuals and $501,600 for married couples filing jointly.

For example, Bronnenkant said, if a person buys an asset on
Jan. 28, waits a full year and sells it on Jan. 29 the next year, the lower,
long-term rate will apply.

Tax rules if you book
a loss

Some observers watching the wild ride say it’s not going to end well, drawing parallels with the dot-come bubble of the late 1990s.

If you end up losing money in the market once 2021 is complete,
you do have tax provisions at your disposal. But there’s a limit how far they

Unless you qualify as a day trader in the eyes of the IRS — a steep challenge — as an investor, you can only subtract up to $3,000 from your ordinary income for capital loses.

Herbst de Cortina said you can offset your short-term capital gains with your short-term capital loses. And the same goes for long term capital gains and loses, he added.

In other words, if a person makes a $5,000 profit on some stocks , but ends with $5,000 loss on others and those wins and loses are both held under a year, or over a year, it ends up making no difference on your tax bill.

But if you turned a $5,000 profit in some sales, but ended with a $10,000 lose elsewhere, you still have a $5,000 loss to deal with.

That’s where the capital-loss limitation comes in. Then you can deduct another $3,000 from your ordinary income. That still leaves a $2,000 sum the tax code can’t help you out with during one filing year. The loss can be carried forward to next tax year and applied then.

There’s another capital-loss tax rule to know about. It’s called the “wash sale rule.”

The IRS won’t let you sell a stock at a loss and buy the same stock or a “substantially identical” one 30 days before or after the sale. By doing that, an investor gives up the chance to apply that loss on their capital loses, experts say.

The recent mania, however, is kicking up prices and investor attention on shares in a range of industries.

If someone pivots from a potential loss on one of those
stocks to another, “you could hardly argue those are similar companies,” Herbst
de Cortina said.

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