Income and Capital Gains Tax

• Income tax is a tax levied on income
• Capital Gains Tax (CGT) is a tax on the profit from the sale of an asset

Income Tax

• Income tax is typically calculated as a percentage of taxable income
• Taxable income is total income less deductions and exemptions
• Income tax is a direct tax, meaning it is paid directly to the government by the person or entity earning the income
• Income tax is a major source of revenue for governments worldwide
• It funds public services such as healthcare, education, infrastructure, and social security
• Income subject to tax includes wages, salaries, business profits, investment income (interest, dividends), and rental income
• Many countries have a progressive income tax system, where higher income earners pay a larger percentage of their income in taxes
• Some countries have a regressive income tax system, where lower income earners pay a larger percentage of their income in taxes
• Other countries have a flat tax system, where everyone pays the same percentage of their income in taxes
• Taxable income is determined by subtracting deductions and exemptions from gross income
• Deductions reduce taxable income and can include expenses such as contributions to retirement accounts, student loan interest, and certain medical expenses
• Exemptions are amounts that can be subtracted from gross income for each person in a household, such as dependents
• Tax credits directly reduce the amount of tax owed
• Common tax credits include credits for childcare expenses, education expenses, and energy-efficient home improvements
• Tax avoidance is using legal methods to reduce income tax liability
• Tax evasion is illegally avoiding paying taxes

Capital Gains Tax (CGT)

• CGT is a tax on the profit realized from the sale of a capital asset
• A capital asset is any asset that is not inventory or property held for sale in the ordinary course of business
• Common capital assets include stocks, bonds, real estate, and collectibles
• CGT is triggered when a capital asset is sold for more than its original purchase price
• The profit is referred to as a capital gain
• If a capital asset is sold for less than its original purchase price, a capital loss is incurred
• Capital losses can often be used to offset capital gains, reducing the amount of CGT owed
• CGT rates vary depending on the holding period of the asset and the taxpayer's income
• Short-term capital gains are profits from assets held for one year or less
• They are typically taxed at the same rate as ordinary income
• Long-term capital gains are profits from assets held for more than one year
• They are typically taxed at a lower rate than ordinary income
• Some assets may be exempt from CGT, such as the sale of a primary residence (subject to certain conditions)
• The CGT is calculated by subtracting the asset's cost basis from the sale price
• The cost basis includes the original purchase price plus any expenses incurred to acquire or improve the asset
• Various strategies can be used to minimize CGT
• These include tax-loss harvesting (selling assets at a loss to offset gains)
• Another strategy is using tax-advantaged accounts to hold investments
• The proceeds from the sale of an asset are either reinvested or used to fund consumption
• CGT can affect investment decisions, as investors may be less likely to sell assets if they will incur a large tax liability
• The capital gains tax impacts government revenue, as higher rates can increase revenue, but may also discourage investment.