Legal Definitions - capital gains

Capital gains refer to the profit an individual or entity makes from selling an asset that has increased in value. Essentially, it's the positive difference between the price you sell an asset for and its original cost, plus any money you invested to improve it.

Almost any significant item you own for personal use or investment purposes can be considered a "capital asset." This includes real estate like a home or land, investments such as stocks, bonds, or cryptocurrency, and even valuable personal property like antiques or collectibles. When you sell one of these assets for more than its "adjusted basis" – which is typically the original purchase price plus the cost of any significant improvements or additions – the resulting profit is a capital gain.

Capital gains are generally subject to income tax, but only when the asset is actually sold, or "realized." The tax rate applied to a capital gain often depends on how long you owned the asset:

• Short-term capital gains are profits from assets held for one year or less. These are typically taxed at your ordinary income tax rates.
• Long-term capital gains are profits from assets held for more than one year. These often qualify for preferential, lower tax rates compared to ordinary income.

Here are some examples:

• Example 1: Selling a Vacation Home

  Sarah bought a small cabin as a vacation home for $200,000 five years ago. She spent $30,000 on renovations to update the kitchen and bathrooms. She recently sold the cabin for $350,000.

  How this illustrates capital gains: Sarah's "adjusted basis" for the cabin is her original purchase price of $200,000 plus the $30,000 she spent on improvements, totaling $230,000. When she sold it for $350,000, her profit was $350,000 - $230,000 = $120,000. This $120,000 is her capital gain. Since she held the cabin for five years (more than one year), this would be considered a long-term capital gain.

• Example 2: Selling Cryptocurrency

  David purchased 10 units of a new cryptocurrency for $500 each, totaling $5,000. Six months later, the value surged, and he sold all 10 units for $800 each, receiving $8,000.

  How this illustrates capital gains: David's adjusted basis for the cryptocurrency was $5,000. He sold it for $8,000. His profit, or capital gain, is $8,000 - $5,000 = $3,000. Because he held the cryptocurrency for only six months (less than one year), this profit is considered a short-term capital gain.

• Example 3: Selling a Classic Car

  Emily bought a vintage sports car for $75,000 as a hobby and potential investment. Over two years, she spent $10,000 on professional restoration to bring it back to pristine condition. She then sold the car at auction for $100,000.

  How this illustrates capital gains: Emily's adjusted basis for the car is her $75,000 purchase price plus the $10,000 she spent on restoration, totaling $85,000. She sold the car for $100,000. Her profit, or capital gain, is $100,000 - $85,000 = $15,000. Since she owned the car for two years (more than one year), this would be a long-term capital gain.