Much of the discussion around investing involves managing costs. Taxes need to be part of that talk. Like fees and expenses, dividend and capital gains tax eats away at your returns.

Any time your investments make money, taxes arent far behind. To make it easy on us, Congress whipped up a  simple  complex tax code for income, dividend, and capital gains tax rates. Lucky for us, that tax code can change on a whim, making it worth staying updated on.

Before we go any further, dividend and capital gains tax are for money invested through taxable accounts only. Taxes on investments are a moot point when dealing with retirement and other tax advantaged accounts. You can buy and sell all day without worrying about the tax consequences, though I dont recommend it.

Anytime you buy, sell, or make money inside of a taxable account you win a tax form at the end of the year. The IRS has tax forms for every type of investment income  to make your annual tax prep easier.

The end of the year is a typical time for you to do a financial review. decide the fate of your investments, and deal with any tax issues. Since the cost basis changes from a few years back, you need to make tax decisions at the time of the trade. If taxes arent part of your thought process before a transaction is made, it needs to be now. Heres a complete guide on cost basis to get you caught up.

How Your Investment Income Is Taxed

Before you can do any tax planning around investments you first need to know what gets taxed, why, and by how much. Theres two separate issues to discuss:

1. How your marginal tax rate plays a role

2. How the tax code defines each type of investment income

Your marginal tax rate decides your investment tax rate. Anytime you can drop into a lower tax bracket, you not only pay a lower tax overall, you might significantly lower your dividend and capital gains tax rates.

This is why dividends, and to a lesser extent long-term capital gains, are part of an income investment strategy and why Buffett pays a lower tax rate than his secretary. When the bulk of your income is from dividends or long-term capital gains you pay a lower effective tax rate.

For us mere mortals this might seem like a strategy built only for the super rich, but its not. Something as simple as adding to your 401k lowers your taxable income, can drop you into a lower tax bracket, and lower your investment tax rates too. A little planning and foresight can have a big impact when youre tax averse.

Below are the dividend and capital gains tax rates for each income tax bracket. The rates you pay are based on your marginal tax rate which you can find here .

Income Tax Rate*

Long-Term Capital Gains Tax Rate