What is the Difference Between Capital Gains Tax and Income Tax?
🆚 Go to Comparative Table 🆚The main difference between capital gains tax and income tax lies in the types of income they are applied to. Income tax is paid on income earned from wages, interest, dividends, and royalties, while capital gains tax is paid on profits from selling an asset, such as a stock or property. Here are the key differences:
- Income Tax: This tax is applied to income earned from regular activities such as wages, salaries, commissions, and interest earned on bank deposits. It is taxed at your marginal tax rate, which varies from 10% to 37% depending on your income.
- Capital Gains Tax: This tax is applied when you sell a capital asset, such as a stock, bond, real estate, or other investment for more than you paid for it. Capital gains tax is determined by how long you held the asset. Short-term gains on assets held a year or less are taxed as ordinary income, while long-term gains held for over a year have generally lower tax rates.
Some key points to consider:
- Short-term capital gains are taxed as ordinary income, which is higher than long-term capital gains tax rates.
- Long-term capital gains are taxed at 0%, 15%, or 20%, depending on your gross income and filing status.
- Income tax is applied to money you earn, while capital gains tax is applied to money generated from the sale of investments or capital assets.
In summary, income tax is applied to earnings from employment, interest, dividends, and royalties, while capital gains tax is applied to profits from the sale of capital assets. The tax rates for these two types of income differ, with capital gains generally being taxed at a lower rate than ordinary income.
Comparative Table: Capital Gains Tax vs Income Tax
The main difference between capital gains tax and income tax lies in the nature of the income being taxed. Here is a table summarizing the differences:
| Feature | Capital Gains Tax | Income Tax |
|---|---|---|
| Definition | Capital gains tax is applied to profits from selling an asset, such as stocks or real estate. | Income tax is paid on income earned from wages, interest, dividends, and royalties. |
| Tax Rates | Short-term capital gains are taxed at the same rate as ordinary income, ranging from 10% to 37% depending on your taxable income. Long-term capital gains are taxed at lower rates, from 0% to 20%, depending on your taxable income. | Income tax is determined by your income and filing status, with rates ranging from 10% to 37% of a filer's yearly income, depending on the income bracket. |
| Holding Period | Capital gains tax rates depend on the holding period of the asset: short-term (held for a year or less) and long-term (held for more than a year). | Income tax does not consider the holding period of assets. |
| Tax Planning | Careful tax planning can help increase your income and wealth by minimizing tax liability on capital gains and ordinary income. | Tax planning strategies may vary depending on the type of income and tax rate applicable. |
In summary, capital gains tax is applied to profits from selling assets, while income tax is applied to various types of earned income. The tax rates for each depend on factors such as the holding period of the asset and the taxpayer's income bracket. Tax planning strategies can help minimize tax liability for both types of income.
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