13 May Your options when selling stock

 Q. When I sell shares of stock in my brokerage account, I’ve heard the term “first in, first out.” What does that mean, and what do I need to worry about when I sell shares?

A. It’s a great question, and one best answered with a hypothetical example.

We reached out to Bernie Kiely, a certified financial planner and certified public accountant with Kiely Capital Management in Morristown.

For his example, he created a mock portfolio made up of 100 shares of XYC Company. In this hypothetical, let’s say you purchased the stock at different times and at different prices.

20 shares @$10 = $200
20 shares @$11 = $220
20 shares @$12 = $240
20 shares @$13 = $260
20 shares @$14 = $280

So your total cost of shares is $1,200, and your average cost is $12 per share.

Let’s further assume you later sold 50 of your 100 shares at $15.50 per share for a total of $775.

“The question is how much did you make? Also how much do you want to pay in taxes on the sale?” Kiely said. “You must pick from one of four choices. These choices are: First In First Out (FIFO), Last In Last Out (LIFO), Weighted Average or Specific Identification.”

Which choice you make is completely up to you, Kiely said. The IRS has no say so in the matter.

Kiely looked at each one of your choices.

FIFO means you sell your shares in the order you purchased them. You cost basis under FIFO would be $540 (20 @10 + $20 @11 + 10 @ $12 = $540. Your taxable gain would be $235.

Under LIFO, the shares you sold would be those share most recently purchased. Your cost basis under LIFO would be $660 (20 @$14 + 20 @$13 + 10 @ $12 = $660). You would have a $15 capital gain under LIFO.

“You would not pay as much in taxes under LIFO given these facts,” he said.

Weighted average is the simplest method to use. You add up the cost of each share you currently own and divide by the total number of shares. Your weighted average cost is ($1,200 ÷ 100 shares) = $12. Your total cost is 50 shares times $12 or $600, resulting in a taxable gain of $175.

For your last choice, Specific Identification, Kiely assumed you had 100 individual shares of stock and you physically had the actual certificates in your possession. Each certificate would have its own unique serial number.

“You could actually pick and choose which of the 100 certificates you selected to sell,” Kiely said. “Your cost basis would be the total of the actual historical purchase price for each certificate. Obviously the Specific Identification Method requires the most detailed record keeping.”

You also need to consider taxes.

Capital gains and losses are classified as long-term or short-term, Kiely said.

“If you hold the asset for more than one year before you dispose of it, your capital gain or loss is long-term. If you hold it one year or less, your capital gain or loss is short-term,” he said. “To determine how long you held the asset, count from the day after the day you acquired the asset up to and including the day you disposed of the asset.”

If you have a net long-term capital gain, a lower tax rate may apply to the gain than the tax rate that applies to your ordinary income, he said. The term “net long-term capital gain” means the amount by which your net long-term capital gain for the year is more than your net short-term capital loss for the year. The term “net long-term capital gain” means long-term capital gains reduced by long-term capital losses including any unused long-term capital loss carried over from previous years.

The tax rate on most net capital gain is no higher than 15 percent for most taxpayers, he said. Some or all net capital gain may be taxed at zero percent if you are in the 10 or 15 percent ordinary income tax brackets. However, a 20 percent rate on net capital gain applies in tax years 2013 and later to the extent that a taxpayer’s taxable income exceeds the thresholds set for the new 39.6 percent ordinary tax rate: $413,200 for single; $464,850 for married filing jointly or qualifying widow(er); $439,000 for head of household, and $232,425 for married filing separately.

“It pays to try to have long-term capital gains instead of short-term capital gains,” Kiely said. “If you miss the over one year cutoff by as little as one day, it could double your tax bill.”

Good luck with your math for your specific portfolio!

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This story was first posted in May 2015.