Selling Stuff

What about when you get money as a result of selling stuff? Whenever you sell anything, the government wants a share of the profit you make. They may offer you a tax deduction, however, for money you lose. This is where we learn about what are called “capital gains” and “capital losses.”

When it comes to profits, Uncle Sam wants a share of anything you make, period. When it comes to getting a deduction on losses, however, you’re only allowed to deduct losses from stuff that you bought for investment. In other words, you don’t get to deduct the bath you took on the sale of the family car, but you’re supposed to pay taxes on the profit you made by buying a painting at a yard sale for five bucks and selling it to an art museum for a thousand. Doesn’t seem fair, does it? Well, if you’re willing to risk the wrath of Uncle Sam, be a tax cheat and forget to report the profit on your painting. As long as the museum doesn’t tell, perhaps nobody will know and your profit will be tax-free. But if the transaction is being reported, you’d better fess up.

Interesting side note: not reporting gains is how some people find themselves behind bars. Drug dealers often go to prison simply because they live high on the hog but don’t file tax returns revealing where the money is coming from. These guys are buying low, selling high (pun intended) and not reporting it. Moral of the story? If you’ve got a lot of undeclared profits, might want to avoid luxury living.

Most of us, however, will never face the dilemma of whether to report our gains or other sources of income because we don’t have a choice. They’re reported for us.

Every January, mailboxes across America fill up with tax forms called 1099s. 1099s are all about potential sources of income being reported to the IRS by whoever paid it. Consider them a warning from anyone who’s sent you a check that they’re about to tell the IRS about it. That way, when you file your taxes, you’ll be sure to tell the IRS about it too. (This is another way the IRS catches tax cheats. They simply compare the 1099 forms they get from money-payers with the tax returns they get from money-receivers. If the amounts don’t gibe, they write a not-so-polite letter to the taxpayer asking why.)

If you get a form in the mail marked simply “1099,” it’s normally a record of money you were paid the previous year for work you performed. A 1099-INT is a statement of interest you received. A 1099-DIV is a statement of dividends you got. A 1099-R is a report of a distribution from a retirement plan. And the one we’re most concerned with here, a 1099-B, is a report of securities you sold. So if you get a 1099-B, you sold something and you’ve got to tell the IRS what it was, when you bought it, what you paid for it, and how much profit or loss you realized from the transaction.

As we’ve already discussed, interest you earn and profits you make in tax-deferred accounts like your 401(k) don’t have to be reported. So one way of avoiding 1099-Bs is to confine your investing to tax-deferred accounts. But we’ve already decided that we’re going to be investing in the stock market outside of our retirement accounts. And since we certainly will be aiming to make money, let’s see how these things are taxed.