What are capital gains or losses?
UPDATED: January 28, 2011
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Capital gains or losses are gains or losses from the sale or exchange of capital assets. Capital gains and losses are a very specific concept in tax law, so as with other complex tax issues, it is always best to consult a tax specialist if you are going to report any capital gains or losses on your taxes.
What is a capital asset?
A capital asset (as far as capital gains tax is concerned) is any asset in your personal or business possession that is of substantial value and that will depreciate or appreciate greatly between your time of purchase and time of sale. For instance, cars, art work, electronics, machinery, furniture, and certain fixtures and real property are considered capital assets.
How do you determine a capital gain or loss?
There are two values that you look at when determining a capital gain or loss. The first value is the amount that you paid for a capital asset. This is known as the basis amount. For instance, if you purchase a roof-sized solar panel for $7,000 dollars, this is your basis amount. The next amount to consider is what the asset was sold for. So, let's say you discover that your solar panel is not producing the amount of revenue desired and sell it at a value of $6,000. In this case, your fair market value is $6,000. To determine your [capital] gain or loss you simply subtract the basis amount from the fair market value. If the value is negative, you have a loss. If the value is positive you have a gain. So, with the above example, $6,000 - $7,000 equals -$1,000. You would have a capital loss of $1,000.
What is a sale or exchange?
In order to qualify an item as a capital gain or loss, you must either sell or exchange the item. This means that the item you are reporting the loss or gain of must no longer be in your possession. This gain or loss can occur as either an outright sale or a barter transaction. So with the above example, instead of selling the solar panels, you decide to trade the panels to a neighbor for a rotating compost bin, you have still either obtained a capital gain or loss. The way to determine the gain or loss of bartered items is to determine the fair market value for the item you received in exchange for your capital item. So, if you check prices of similar rotating compost bins on sites such as Craigslist or Ebay and determine that the value is $5,000, this would be your fair market value amount for the equation.