Taxation

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Taxation (tax) is imposed in the U.S. at both state and federal levels on all income-generating individuals above pre-determined thresholds. Taxation on investors is imposed based on the return on investments the tax authorities perceive they've received, although rules exist that allow investors to minimize the impact of some of these taxes.

Long and short

Investment income is taxed under several different tax regimens in the U.S. - some more onerous than others. The most common taxable investment income is from dividends earned from stock holdings and interest from bonds. Most dividends (called 'qualified') are taxed at the lower marginal rate of 15% since 2003 whereas interest income is taxed at the investor's normal marginal taxation rate.

Investments are also taxed for capital gains if they are sold at a profit. Gains on securities held for longer than one year are considered long-term and are also taxed at 15% while returns on those help for less than a year are considered short-term and taxed at the investor's regular marginal tax rate. Capital gains distributions on mutual funds are taxed at the long-term rate of 15% while income from vehicles like annuities is taxed as regular income when it is distributed.

It's a wash

The most common tactic investors employ to minimize taxation on their investment gains is by using capital losses in one area to offset capital gains in another plus up to $3,000 per year of other income. However, this form minimization doesn't apply if the investor sells and then repurchases the same security within 30 days; such action is called a 'wash sale' by taxation authorities and is taxed at the investor's regular marginal rate. Investors also pay a 10% taxation 'penalty' if they withdraw funds from a tax-deferred vehicle like an annuity or a Roth IRA retirement account.