Up Next

Market-Based Solutions to Vital Economic Issues


Building bridges between tax scholars, policymakers and practitioners
News & Media

Should you sell stock before President Biden raises the capital gains tax rate?

Write-Off: The Tax Blog

Everyone is freaking out about potential increases in capital gains taxes. If I had a nickel for every time someone asked me if they should sell all their gains and take advantage of the low rate, I would have, by my accounting, about 85 cents (which is a lot—how often are you asked the same question 17 times!?!).
For example, I recently got a call from a friend. She had bought a stock for $150,000 that was now worth $200,000. She knows President Biden wants to increase the capital gains tax, and hears that all the smart folks are selling their capital gains now to take advantage of the lower tax rate. She asked me what she should do. Sell now, to lock in that sweet lower capital gains tax rate, or sell later, and like a fool, pay a higher rate?

It is true that President Biden has proposed increasing the capital gains tax, and it is very reasonable to think about how to respond to these potential rate increases. Indeed, in classes I teach to undergraduates and graduate students at the University of North Carolina Kenan-Flagler Business School, I mention that selling ahead of a capital gains tax rate increase might be a smart move. But when is it?
First, let’s get two things off the table:

  1. You can’t predict the market. Neither can I. If we could reliably predict the market, you would not be reading this article and I would not be writing it—we would be carefully planning how to blow the billions we made in the market. Stocks are about as likely to go up as down. Don’t fear selling a stock because its price will soar after you sell—you can reinvest the money in some other stock that is just as likely to do well.
  2. If the price of a stock is down, you have already lost that money. Economically, your net worth is the same whether you have sold a stock that is down or whether you don’t sell—the only difference is how you hold the assets (in cash or in stock). Don’t think that you can avoid the loss by not selling—if it is down, you lost the money. See #1—the price is about as likely to keep going down, as come back up, as stay the same.

With that off the table, what should you do if you expect the capital gains tax rate to increase? It depends.

  1. How long do you plan on holding the stock if you didn’t sell it? In some cases, if you are planning on holding long enough, you are better off paying a higher tax rate later, then a lower rate today (plus that higher one later). Take the example above. If my friend sold her stock, locked in the 20% rate on the first $50,000 in gain, then reinvested the after-tax proceeds ($190,000) in another stock that yielded 10% for 10 years, at which time she sold, and paid the new Biden-passed tax rate of 37% on her gains, she would have $380,771 after taxes. If, instead, she did not sell today and simply paid all of the gain at 37% in 10 years, she would end up with $382,312—actually a bit more. What is going on? If she sells today, she is locking in a lower tax rate on her initial $50,000 gain, but, she is also not able to invest that $10,000 she would have paid in taxes for the next 10 years. If you wait 10 years to sell, having that extra $10,000 in the market for 10 years puts you ahead, even if you pay a higher tax rate later. This difference only grows with higher returns—if my friend had 20% returns instead of 10% on both stocks, waiting 10 years to sell everything instead of locking in the gains now would yield more than $24,000 more in after-tax wealth. This is all to say, it is not a given to sell now. Sit down and work through the calculations, or, have your financial advisor help you to do so. If you were planning on holding for a long time anyways, then it might be better to hold on and not sell.
  2. What tax bracket are you in, really? Biden’s proposals to increase the capital gains tax rates are getting a lot of attention, and, it seems like everyone thinks that their capital gains tax will increase. Many proposals that have been floated involve only increasing rates for upper-income folks. Are you one of them? For example, the rate I assumed above, 37%, was used because some proposals would simply tax capital gains at the top ordinary income tax rate, which now is 37%. But, in 2021, that 37% rate applies to married filing jointly taxpayers with more than $628,301 in taxable income. Are you pulling in more than $600K a year? Some readers certainly are. But, most are not, simply because that is well above what most folks make (even most folks who read these types of articles).
  1. Are you thinking of dying soon? If you can hold on to gains until you die, your heirs get those assets, and don’t have to pay capital gains tax on the increase. The upside is you get out of all capital gains taxes. The downside is, of course, that you are dead. If you are older, consider just leaving everything in the market and getting this amazing tax treatment available to those who kick the bucket with unrealized capital gains (although Biden may want to get rid of that sweet deal as well).
  2. What else do you have going on in your financial life? Do you have a lot of losses, or donate to charity? If you have a lot of losses (you unloaded that sweet Gamestop stock you picked up at $290 for a mere $90), you should sell enough gains to offset all those losses. Generally, you can offset gains with losses, so, if you have already lost, generate some gains by selling.  If you donate money to charity anyways, a very useful tactic to avoid all capital gains taxes is to simply donate your asset directly to charity. You won’t pay taxes on the capital gains, and, if you itemize, you get a charitable contribution that is equal to the fair market value of the asset (it is still better to donate appreciated stock to charity than cash even if you don’t itemize). If you are going to donate anyways, this is a pretty efficient way to avoid all capital gains taxes, no matter at what rate. Of course, if you were not going to donate anyways, this makes no sense.

So, what should you do? Your individual circumstances vary, but, if you are planning on being in the market for a long time, it might make sense hold on to your stock and not sell even if rates do increase, especially since it might well be the case that the increased rates won’t apply to you, and especially if your current gains are not that big in percentage terms (like the 150K to 200K example). And, even if Biden convinces Congress to increase the rate, there is nothing saying that four years down the road it will not be cut back down. But, if you are just parking your money briefly in the market, and you think your rate will change, then it might be wise to lock in the lower rate now.
This column originally appeared in the Triangle Business Journal.

You may also be interested in: