Are Unrealized Gains Taxable?

If your investments are experiencing the volatile highs and lows of the market this year, you may find yourself wondering, “are unrealized gains and losses taxable?” In the United States, unrealized gains are not taxable until they have been sold and unrealized losses do not have a tax benefit until they’ve been realized. This also means that neither unrealized gains nor losses need to be claimed on your tax returns until you have sold the asset or investment.

Navigating the complex world of the tax laws on investment gains and losses can be challenging. Below you will find a guide aimed to help you understand the ins and outs of unrealized gains and losses as well as state-level capital gains tax on investments.

What are unrealized gains and losses?

Gains and losses are an expected part of investing and can be categorized as realized or unrealized. Unrealized gains refer to the appreciation of an asset or investment before it is sold while unrealized losses refer to the money lost on an investment prior to it being sold. Once it is sold, the gain or loss becomes realized and now has an effect on your taxes.

For example, if you bought 50 shares of a stock at $10 per share and they rose to $20 per share, assuming you have not yet sold your shares, you would have an unrealized gain of $500.

Are unrealized gains taxable?

So, do you pay taxes on unrealized gains? No, you do not have to pay taxes on unrealized gains and they do not need to be reported to the IRS until they are realized. However, this may change in the months ahead if President Biden’s Build Back Better plan proposes a “Billionaire Minimum Income Tax” that would tax the income and unrealized capital gains of households worth more than $100 million. 

Are unrealized losses tax deductible?

Because there are no immediate tax implications for unrealized losses, you do not need to report them on your taxes and they do not carry any tax benefits. However, once you do choose to sell any assets that have decreased in value, the loss becomes a realized capital loss. According to the IRS, if you are an individual or are married filing jointly you are able to deduct up to $3,000 of realized losses that exceed your gains on your returns. Losses in excess of this amount can be carried forward to offset future gains or be deducted against income. You may also use these realized losses to offset otherwise taxable gains through a strategy known as tax-loss harvesting.

For example, suppose you invested $50,00 and it declined to $40,000. This would mean that you would have a loss of $10,000. Separately, you have other investments that produced gains of $5,000. You can offset all of this $5,000, and you can also deduct $3,000 of the excess capital loss against your ordinary income. The remaining $2,000 would be carried forward as a deduction against the next year’s capital gains.

Continue reading: How does tax-loss harvesting work?

What to do with unrealized gains and losses

Unrealized gains and losses can provide value to your portfolio without you needing to sell them, particularly when it comes to long-term investments. Because they are not yet taxed, unrealized gains allow investors to continuously compound their money by growing it pre-tax instead of selling the investment and reinvesting the money post-tax. On the other hand, what you do with your unrealized losses is up to your comfortability. One option is to hold on to it in hopes that the asset will eventually recover itself and you can at least recoup your initial investment. A good investment strategy uses a combination of these approaches.

As for your capital gains, depending on the account, you may be able to reinvest your gains tax-free. For example, the capital gains in your retirement accounts are either tax-deferred (taxed later) or tax-free (for Roth accounts) so you can freely reinvest them in the same account without having to pay taxes on the capital gains. Otherwise, you may want to hold on to your capital gains or offset them through tax-loss harvesting or by working with a financial advisor to hedge your investments.

If you’re questioning your investment strategy or want to be sure that it aligns with your overall financial goals, it may be worth working with a wealth management firm that offers fiduciary investment management.

Does Texas tax capital gains on investments?

Although unrealized gains and losses have no effect on your taxes, once the asset or investment has been sold for a profit and the gains become realized, they are considered capital gains and can now be taxed at both the state and federal levels. That said, Texas does not have a state income tax, and since capital gains are taxed as income, they are not taxed at the state level in Texas.

How do I avoid capital gains tax in Texas? Because Texas doesn’t have a capital gains tax at the state level, there isn’t necessarily anything you need to do to avoid it. However, there are steps you can take to minimize or avoid paying them at the federal level. This includes strategies such as holding onto assets for longer than a year (which can lower the tax rate on capital gains), using tax-advantaged accounts like 401(K)s or IRAs, tax-loss harvesting, and hiring a fiduciary financial advisor.

Reduce the impact of your taxes with tax planning from Avidian Wealth Solutions.

So, are unrealized gains and losses taxable? Unrealized gains are not taxable until they are sold and become realized. Similarly, unrealized losses are not tax-deductible until the security is sold. Understanding the tax implications of buying and selling assets and investments, like the tax laws around unrealized vs. realized gains, is crucial to developing an investment strategy that grows and protects your capital investment.

The best way to do this? Partner with a financial advisor from Avidian Wealth Solutions. As a fiduciary wealth management firm based in Houston, we have the experience needed to create customized tax strategies for high-net-worth individuals that includes various aspects of your financial plan such as your investment strategy, estate planning, and retirement planning. And because we are fiduciaries, you can rest assured that you are always receiving the highest standard of care.

To learn more about how we can help with your tax and investment strategies, schedule a meeting with us today!

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