Tax question: Capital loss carryover and qualified dividends

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Tax question: Capital loss carryover and qualified dividends

Postby swupak » Tue Nov 03, 2009 1:03 pm

Hello!

THE BACKGROUND

1. I have capital losses (long-term, but not relevant, I don't think) of about $10,000 from tax year 2008.

2. For 2009, I'll have qualified dividend income of about $1,100 and my total taxable income will be approximately $30,000. Also for 2009, I'm (safely) in the 15% tax bracket.

3. I used the worksheet for line 44 found in the instructions for the 2008 (yes, 2008) Form 1040 to ballpark the benefit, if any, of the 0% tax rate on my 2009 qualified dividend income.

THE QUESTION

Am I correct in concluding that the 0% tax rate on qualified dividends income doesn't reduce my tax because I have a large capital loss carryover?

I was hoping that, of the $30,000 in taxable income that I have, (a) the $1,100 of qualified dividend income would be taxed at 0% and (b) the remaining $28,900 would be taxed at 15%. But when I go through the worksheet for line 44, it seems that I pay the same amount of tax calculating the tax on $30,000 without regard to qualified dividend income and the tax on $1,100 of qualified dividend income and $28,900 of ordinary income. If that's true, that's somewhat disappointing!

Thanks in advance.
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Postby DSInvestor » Tue Nov 03, 2009 1:24 pm

swupak wrote:THE QUESTION

Am I correct in concluding that the 0% tax rate on qualified dividends income doesn't reduce my tax because I have a large capital loss carryover?
This is not correct. If you are in 15% tax bracket, you will receive 0% tax rate on QDI which lowers your taxes. Your loss carryover gives you 3000 income reduction which reduces your AGI and thus your taxes.

BTW, you cannot use 15% tax rate to apply to all of your taxable income. Some of it will be taxed at 0%, 10% and some at 15%. If you earn enough to hit the 25% bracket by $1, only the last $1 of income will be taxed at 25%. The rest of your income is taxed at lower rates. The more you earn, the more you keep even if you bump up a tax bracket.

Dividends (qualified or non qualified) in taxable accounts add to your AGI.
Your pension income adds to AGI:
Your social security adds to AGI (but the portion added depends on your AGI). Once you cross a certain level, 85% of social security will be taxable (i.e. it will add to your AGI).
Your capital loss carry over will give you -3000 income reduction.

Scenario 1:
Let's say you receive 30,000 pension:
Qualified Dividends: 1,100
Capital Loss: -3000
AGI: 28,100

Scenario 2:
Pension: 31,100
Capital Loss: -3000
AGI: 28,100 (same as above)

Both scenarios have the same AGI. You will presumably take the same exemptions and deductions. You will find that your Total tax for scenario 1 where you received QDI will be lower than Scenario 2. Your extra 1,100 pension income in Scenario 2 will be taxed at as ordinary income rather than 0% resulting in higher tax.

The existence of the QDI in your tax return means you cannot take the number you calculate for taxable income (line 43 on the 1040 form) and run that through the tax tables to find taxes due. The tax tables don't take QDI into consideration. The best bet is to find some tax software to run your scenarios.

You can find 2008 tax software really cheap now. here's turbo tax 2008 for $5.58
http://www.amazon.com/TurboTax-Deluxe-F ... 983&sr=8-1

I think there are some free tax online deals as well. TaxAct comes to mind:
http://www.taxact.com/taxes-online/free-online-tax.asp
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Postby pshonore » Tue Nov 03, 2009 2:50 pm

If you just want a rough estimate, leave out the QDI altogether (since we are certain they won't be taxed). Take your taxable income (assuming you've already reduced it by a personal exemption/std deduction) , subtract 3K for the loss carryover, and look it up in the table. The 2009 tables are slightly different and should result in a slightly lower tax.

Just be sure to put QDI on your real return. Otherwise you might get a nasty letter from Uncle Sam.
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Postby earlyout » Tue Nov 03, 2009 5:05 pm

My understanding of this issue is different than outlined above by DSInvestor. I think your understanding is correct. The 0% tax rate will not affect your taxes. The QDs still have to be reported as income and will by offset by your loss carry-over. In the case you describe, there is no income remaining that will be subject to the 0% rate. The $1900 balance of your allowable loss carryover ($3000 less $1100) will offset regular income.

The critical point, as you surmised, is that the rate is 0% but you have to include the QDs as income.

EO
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Postby pshonore » Tue Nov 03, 2009 5:47 pm

I believe DSInvestor is correct. Loss carryovers do not reduce QDs; they reduce total income. If you were doing this by hand, you would use the QD and CG Tax Worksheet in the instructions for Form 1040. First you figure tax on total income ; then you subtract the QDs and LTCGs from total income and calculate tax on that figure; then you figure tax on QDs and LTCGs. Compare the first calculation to the sum of the second and third, and the lesser is your tax. Thats what the worksheet does and of course all tax software automates the process.
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Correction

Postby earlyout » Tue Nov 03, 2009 6:50 pm

The other guys are correct. My apologize for any confusion. The loss carry over is subtracted from other income before taxes are calculated on the qualified dividends. If your marginal rate is 10% then the $1100 of QDs at 0% will lower your tax bill by $110 relative to having $30,000 of regular income.

EO
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