Capital Gains and Losses – Tax Rules on Sale of Capital Assets

*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.

EXERCISE 1

Exercise: Determine if the following is either a Capital Asset or an Ordinary Asset

  1. Factory Building
  2. Delivery truck
  3. Personal car
  4. Unlisted Stocks held by a dealer or broker
  5. Merchandise inventory
  6. Residential House and Lot
  7. Antique piano used as display in home
  8. Family home
Click to show the Answer
  1. Factory Building – ordinary asset
  2. Delivery truck – ordinary asset
  3. Personal car – capital asset
  4. Unlisted Stocks held by a dealer or broker – ordinary asset since it is held by a dealer
  5. Merchandise inventory – ordinary asset
  6. Residential House and Lot – capital asset subject to 6% capital gains tax
  7. Antique piano used as display in home – capital asset
  8. Family home – capital asset subject to 6% capital gains tax

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

https://i0.wp.com/assets.kenticocloud.com/0542d611-b6d8-4320-a4f4-35ac5cbf43a6/e20d4a57-58db-4f3d-a3c7-6d8acf953a64/trusted-choice-content_tc-content-images_company-car_blog_header.jpg?w=1000&ssl=1

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.

EXERCISE 2

Problem: Capital Gains and Losses from Sale of Capital Asset

Data of the gains and losses from the sale of capital assets of Mr. J are as follows:

  • Residential House and lot (holding period 6 years, cost P500,000) at a gain of P100,000
  • Personal Car (holding period 3 years, cost P800,000) at a loss of P100,000
  • Jewelry (holding period 6 months, cost P400,000) at a gain of P250,000
  • Unlisted domestic stocks (holding period, 1 year, cost P200,000) at loss of P80,00
  • Antique furniture (holding period, 2 years, cost P500,000) at a gain of P300,000

How much is the net capital gain or loss subject to regular tax?

Click to show the computation
  • Personal Car – (100,000/2) long term holding period (P50,000)
  • Jewelry – short term holding period P250,000
  • Antique furniture – (300,000/2) long term holding period P150,000

Net capital gain subject to regular tax = 250,000 + 150,000 – 50,000 = P350,000

*Sale of residential house and lot is subject to 6% Capital Gains Tax.

*Sale of unlisted domestic stocks is subject to 15% Capital Gains Tax.