*This post deals with the sale of capital assets except Real Property and Shares of Stocks. The taxation rules for these two assets are discussed another post: Capital Gains Tax – Train Law Updates
Capital Asset vs Ordinary Asset
Ordinary assets are assets that are used in the ordinary course of business such as office equipment, factory building, delivery truck, and merchandise inventory. Capital assets on the other hand are assets that are not used for business like jewelry and a personal car. Residential house and lot and unlisted domestic stocks that are NOT owned by dealers are considered as capital assets but are governed by special taxation rules and therefore discussed in another post.
Computation of Capital Gains Gains and Losses
The sale of a capital asset may either result to a gain, a loss, and neither a gain nor a loss.
- A sale results in a gain if the Selling Price (SP) is greater than the Cost (C)
- A sale results in a loss if the Selling Price is less than the Cost
- There is no gain or loss if the Selling Price is equal to Cost
Tax on Capital Gains and Losses
Gains on sale of capital assets are taxable regular income tax – either graduated rate or the 8% Income Tax regime for individuals and 30% tax rate for corporations. Tax on sale of real property and unlisted domestic stocks classified as capital assets are taxed a final Capital Gains Tax discussed in another post. Capital losses are of course, not taxable and may be used as a deduction.
Net Capital Loss Carry Over
A net capital loss for the current year may be deducted against the net capital gain of the succeeding year given the following rules:
- The loss may be deducted in the next year ONLY.
- Net capital loss may be claimed as deduction by individuals ONLY. Corporations are not allowed to carry over capital losses to the next year.
- The amount to be deducted would be the lower among the following amounts: the net capital gain of the succeeding year, the net capital loss carry over or the net income in the year the net capital loss carry over was incurred.
Holding Period Rule
The holding period rule is unique to sale of capital assets and is applicable to INDIVIDUALS ONLY. The holding period rule is not applicable for corporations. Here are the rules:
- If the capital asset sold was held by the individual for 1 year or less (short term), 100% of the gain or loss on such sale is recognized in the income tax return.
- If the capital asset sold was held by the individual for more than 1 year (long term), 50% of the gain or loss on such sale is recognized in the income tax return.
*Note that the Holding Period Rule and the Net Capital Loss Carry Over Rule is not applicable for Real Property and Unlisted Domestic Stocks classified as capital asset.