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Let’s say you are a painter, and you paint 20 pictures and sell 10 for 100,000 each. You pay taxes on the 1m you receive. The other 10 painting are sitting in

Let’s say you are a painter, and you paint 20 pictures and sell 10 for 100,000 each. You pay taxes on the 1m you receive. The other 10 painting are sitting in a storage unit. Then at some point in the future someone, one of you previous customers sells their painting in a private sale for 10M. They pay capital gains on $9.9m. Now you as the painter hypothetically have $100M worth of in paintings in your storage unit. Traditionally this net worth is considered unrealized capital gains and is untaxed. It will be taxed when sold. Replace paintings with ownership of a company (equity) and you should get the idea.

pjettter 6y ago
This is how it works (or at least used to work) in The Netherlands. If you receive Stock options, you pay taxes over the gains, i.e. the money you would have made if you exercised on that date. Even if you have not exercised. So the options were free, but suddenly you have to find a lot of money to keep them. Or you exercise a part of them.
- apta 6y ago
  Sounds like a terrible system.
beerandt 6y ago
Put another way, it's taxing money (value) that you haven't actually made yet.
- ISL 6y ago
  More-dangerously, it is taxing theoretical money that you haven't yet made. There is no guarantee that the current market-clearing price for a given object is equivalent to that at which a larger inventory can be sold. Taxing capital gains at the time of sale makes sense -- there is actual revenue available for taxation. Taxing unrealized gains can be a path to really-negative outcomes. This is particularly so if the government doesn't give matching credits for unrealized capital losses.
  - jcampbell1 6y ago
    There are some loopholes that should be closed however. You can go to a bank and borrow against your shares, using them as an asset without realizing capital gains. In my mind, if you use the shares (gains) as collateral for your benefit, you should have to recognize the capital gains as mark-to-market immediately payable.
    - ISL 6y ago
      Presumably the bank won't accept them as collateral for more than can be realized at the time of sale? I'm no expert, but I would guess that, if shares are foreclosed upon, the bank's basis is zero (and their taxation short-term)? (Edit: the downside here is that the government doesn't see any revenue from this approach, which it might otherwise. The shareholder must pay interest, though, which might not be to their advantage.)
    - beerandt 6y ago
      A loan is not (usually) taxable income. Taxable income is used to pay back the loan. This keeps people's capital invested longer term, which is part of the purpose of capital gains tax incentives. In other words, it's not a loophole. It's working as intended.
- darkwizard42 6y ago
  Which is... kind of crazy, it forces you to immediately realize gains and pay taxes on that as well...
RobRivera 6y ago
Great example, and its a dangerous policy bc it makes the incentive to sell your assets to cover the tax bill higher, regardless of your personal plans with them. (Maybe they are future wedding gifts for your children?)

pjettter 6y ago

This is how it works (or at least used to work) in The Netherlands. If you receive Stock options, you pay taxes over the gains, i.e. the money you would have made if you exercised on that date. Even if you have not exercised. So the options were free, but suddenly you have to find a lot of money to keep them. Or you exercise a part of them.

apta 6y ago
Sounds like a terrible system.

beerandt 6y ago

Put another way, it's taxing money (value) that you haven't actually made yet.

ISL 6y ago
More-dangerously, it is taxing theoretical money that you haven't yet made. There is no guarantee that the current market-clearing price for a given object is equivalent to that at which a larger inventory can be sold. Taxing capital gains at the time of sale makes sense -- there is actual revenue available for taxation. Taxing unrealized gains can be a path to really-negative outcomes. This is particularly so if the government doesn't give matching credits for unrealized capital losses.
- jcampbell1 6y ago
  There are some loopholes that should be closed however. You can go to a bank and borrow against your shares, using them as an asset without realizing capital gains. In my mind, if you use the shares (gains) as collateral for your benefit, you should have to recognize the capital gains as mark-to-market immediately payable.
  - ISL 6y ago
    Presumably the bank won't accept them as collateral for more than can be realized at the time of sale? I'm no expert, but I would guess that, if shares are foreclosed upon, the bank's basis is zero (and their taxation short-term)? (Edit: the downside here is that the government doesn't see any revenue from this approach, which it might otherwise. The shareholder must pay interest, though, which might not be to their advantage.)
  - beerandt 6y ago
    A loan is not (usually) taxable income. Taxable income is used to pay back the loan. This keeps people's capital invested longer term, which is part of the purpose of capital gains tax incentives. In other words, it's not a loophole. It's working as intended.
darkwizard42 6y ago
Which is... kind of crazy, it forces you to immediately realize gains and pay taxes on that as well...

RobRivera 6y ago

Great example, and its a dangerous policy bc it makes the incentive to sell your assets to cover the tax bill higher, regardless of your personal plans with them. (Maybe they are future wedding gifts for your children?)