If you sold a car this year, you may wonder how this affects your taxes. The IRS levies capital gains taxes when you sell an asset for a profit, but how does this apply to motor vehicles? Here’s what you need to know about capital gains taxes on vehicles.
What are capital gains taxes?
Capital gains are profits an investor makes when selling one of their assets. Investors then owe capital gains taxes on this profit. When people think of capital gains, they think of stocks, cryptocurrencies, or bonds. However, they can also apply to physical investments like real estate, fine art, and yes, cars.
Assets held for less than one year are considered short-term investments. Profits from these investments are taxed at the same rates as income tax. Assets held for longer than a year are considered long-term investments and are taxable at different (and usually more favorable) rates than short-term investments. Long-term capital gains are taxed at 0%, 15%, or 20%, depending on your overall tax bracket.
Are cars subject to capital gains taxes?
Many consumers think of cars as functional purchases rather than long-term investments. However, the IRS considers car sales profits a capital gain.
While this may sound daunting, most people who sell their cars never pay capital gains taxes. This is because cars depreciate very quickly and are sold at a loss in most cases. Since there is no profit in this case, capital gains taxes do not apply.
Capital gains taxes on cars are typically applied to classic or rare cars purchased specifically for investment. These cars have usually been meticulously stored, maintained, and upgraded to retain their value.
When are capital gains taxes due on cars?
If you sell your car for a profit, you’ll need to pay capital gains taxes the year the sale is finalized. For example, if you sold a car during 2023, you would pay capital gains taxes in spring 2024 when 2023 taxes are due.
When buying or selling any car, it’s important to keep documentation of the purchase price - even if you sell it at a loss. You will need this documentation for the IRS when filing your taxes.
Another key factor to consider is the improvements you’ve made to the car during your ownership. Long-term improvements that add value, such as installing a stereo system, can lessen your capital gains tax burden. For example, if you originally bought a car for $5,000, added a speaker system for $1,000, and sold the car for $6,000, you would apply the $1,000 in improvements to the original purchase price to break even instead of making a profit.
Of course, you’ll need to carefully document the money spent on these improvements to use this tax strategy. Regular maintenance like tire or brake replacements does not count.
This material is for general information and educational purposes only. Information is based on data gathered from what we believe are reliable sources. It is not guaranteed as to accuracy, does not purport to be complete and is not intended to be used as a primary basis for investment decisions. It should also not be construed as advice meeting the particular investment needs of any investor.
Realized does not provide tax or legal advice. This material is not a substitute for seeking the advice of a qualified professional for your individual situation.
