Investing and Tax
Some investments come with tax benefits that make them a great choice. With such investments, you can achieve your financial goals faster. However, tax benefits are not enough reasons to pick an investment.
Like most properties and income, you are also taxed at your marginal tax rate on your investment income. This covers your investment returns in dividends, interest, rent, capital gains, and managed funds distribution. Tax deductions are granted on the cost of managing, buying and selling an investment.
Understanding how investment income is taxed can be very complex with many rules and regulations of the ATO. This is why it is advisable to get an accountant who will help you with handling taxation.
That said, there are certain aspects of taxation relating to investment that you have to understand. These include:
Capital Gains and Losses
A capital gain is a profit you make when you sell an investment for more than you bought it. When this happens, all your capital gains must be included in your tax returns for the year in which the investment is sold. The marginal tax rates apply to capital gains, but in an instance where you have been in possession of investment for more than 12 months before selling it, the capital gains tax discount will apply. This means only half of your capital gain would be taxed.
Capital losses, on the other hand, is the loss you make when you sell an investment for less than you bought it. With this loss, you can reduce the capital gains made for the year that loss occurred or keep it to offset your capital gains in the future.
Gearing can be either positive or negative. It is positive when you borrow money to invest and generate a return on the investment that is higher than the investment cost. This means extra money for you, which makes you positively geared, and you are obliged to pay tax on the income.
Negative gearing occurs when you borrow to invest and generate a return less than the investment cost. Most investors prefer to gear negatively because this means they can claim a tax deduction for the loss.
These are investments where the tax on the investment income is not up to your marginal tax rate. When choosing an investment, you can consider its tax-effectiveness. But only as a secondary. Tax-effective investments include:
Superannuation: This is one of the most efficient ways of saving for retirement. It is tax-effective because there are tax incentives to encourage people to save through superannuation. The incentives include:
- 10% tax rates for capital gains
- 15% maximum tax rate on investment income
- Zero tax on super withdrawals for the majority of those above 60 years
- 15% tax rate on super contributions of employers and their salary sacrifice contributions for those earning below $25,000
- Zero tax on investment earnings once you start a superannuation pension.
Insurance bonds: if you want to invest long-term (10 years), insurance bonds issued by insurance companies is tax-effective if you comply with certain rules.
When it comes to the tax return on your investment, ensure that you keep a proper record so you won’t have a problem when tax time comes.