Millions of Americans took to the markets this week and took on Wall Street — united under the unlikely flag of GameStop (GME) stock. The buying frenzy began online, organized on a Reddit forum called Wall Street Bets.
Spurred on by the internet hype, small-time investors from across the country bought GME stock, sending the price soaring to a $470 peak Thursday morning, while punishing the hedge funds that bet on GME to fail.
The Redditors didn’t stumble into a goldmine by accident. The “short squeeze” is a strategy often used by professional investors: buy stock that’s been undervalued and force short sellers to cover their losses. By taking advantage of this particular hedge fund’s short exposure, Wall Street Bets forced them to pay the price.
If you bought GME stock early this week, there’s a good chance you made some real money on the play. But after brokerages like Robinhood and TD Ameritrade restricted the trading of GME, the stock fell considerably.
No matter whether you made or lost money on the GME craze, short-term stock speculation has real tax implications. Here’s what you need to know.
Capital Gains Taxes Depend on Your Brokerage Account
In most cases, when you sell a stock for a gain, you must pay a Capital Gains Tax. This is true for the majority of all brokerage accounts.
But there’s one type of brokerage account that’s tax-free.
A Roth IRA is a special type of brokerage account built specifically for retirement savings. It allows the user to contribute up to $6,000 a year, and invest that money in stocks, bonds, ETFs, and other investment products. And, it’s completely tax-free as long as you don’t withdraw your earnings until retirement.
So, if you bought and sold your shares of GME in a Roth IRA, there’s no need to worry about taxes. But for all other brokerage accounts, you must account for capital gains or losses on your Form 1040.
Tax Accounting for Capital Gains or Losses
For tax purposes, there are two types of capital gains: long-term and short-term. A capital gain is considered long-term if you’ve held the investment for over a year before selling. Long-term capital gains are typically taxed at 15% or 20% depending on your tax bracket.
But if you bought GME last week and sold it this week? That’s a short-term capital gain. Short-term gains are typically taxed at higher rates than long-term gains. And the rate is determined by your tax bracket.
To calculate your total capital gains or losses, use the IRS’s form Schedule D. If you lose more money than you gain, you can deduct up to $3,000 per year in capital losses from your taxable income.
Once you’ve calculated your capital gain or loss, mark the correct number on your Form 1040 and attach the Schedule D.
Contact Boxelder Consulting
Preparing your tax returns is difficult enough already. Accounting for capital gains or losses can make it a nightmare.
And, if you’re considering investing in retail stocks, whether for short exposure or long-term investment, we’d be happy to give you our perspective as well. That way, when the next big stock breaks the internet, you’ll be ready to roll!