Dear Tax Talk:
I just recently sold all of my shares of a mutual fund in which I had been buying $100 worth of shares on a monthly basis for the past six years. I understand that the capital gains tax is different for stocks that are held less than a year and more than a year. Which tax rate would apply in my case?
-- Steve

Dear Steve,
In my column "Tax on a stock gain or loss," I talked about figuring a stock's cost basis for purposes of calculating gain or loss when an investor sells stock. Apart from figuring your gain or loss on the sale of shares, you also have to figure the amount that will be taxed at short-term rates versus the gain or loss that will be taxed as long-term.

Gain or loss realized on an investment held for more than one year (i.e., at least one year and one day) is taxed as long-term capital gain. Gain or loss on an investment held for one year or less is taxed as short-term. Even though all your shares were sold in one transaction, you have to allocate the selling price and cost between the short- and long-term holding periods to properly compute your taxes.

In your case, the cost of the mutual funds held for one year or less is simple enough. Since you've been investing $100 a month, your cost in the short-term portion of your sale would be $1,200.

You may have additional cost if you had a dividend reinvestment plan during this period. The selling price of these shares would be the number of shares acquired in this 12-month period (including shares acquired through reinvestment) multiplied by the selling price of one share on the date of sale.

Because you sold all of your shares in the mutual fund, your long-term selling price would be the difference obtained by subtracting the short-term selling price from the total proceeds of the sale. Similarly, your total cost less the amounts allocated to short-term would be your basis for the long-term portion of your gain.

The total proceeds of the sale would be reported between short and long-term on Schedule D of your Form 1040 for the year of the sale.

To ensure compliance with requirements imposed by the IRS, we inform you that any U.S. federal tax advice contained in this communication (including any attachments) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein. Taxpayers should seek professional advice based on their particular circumstances.

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