Confusion with Qualified Dividends and Cap Gain Tax Worksheet

Home Fairmark Forum Taxation of Investments Confusion with Qualified Dividends and Cap Gain Tax Worksheet

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  • #13010
    friendship7
    Participant

    [Using 2020 preliminary forms & data]
    I completed the “Qualified Dividends and Capital Gain Tax Worksheet” and saw that I had only $20,126 on line 9 which I think represents the amount of qual divds & CG’s taxed at zero percent – and so there was room for more. I wanted to see what would have happened if I had had more qualified dividends so I ran a version with $10,000 more qualified dividends but I ended up with the same $20,126 number. As line 2 [qual divds] went up, line 1 [taxable income] went up by the same amount! It appears to me that you can only get more of the items taxed at zero percent if line 2 increases while line 1 stays the same but the IRS instructions for 1040 seem clear, the instructions say:

    “Enter your total qualified dividends on
    line 3a. Qualified dividends are also included in the ordinary dividend total required to be shown on line 3b. Qualified
    dividends are eligible for a lower tax…”

    So my interpretation of this instruction is that even qualified dividends go into increasing line 1 of the worksheet. I’m not only going around in circles over this, I’m concerned that I may have been doing this wrong for years and shortchanging myself. I have always listed my total dividends [now residing at line 3b of 1040] as including both non-qualified dividends and qualified dividends and as a subset of that, the qualified dividends in a separate place [now line 3a of 1040].

    Sorry this is so long but I wanted to be clear about my problem. Any help someone can provide will be greatly appreciated.

    #13057
    Kaye Thomas
    Moderator

    No, you haven’t been shortchanging yourself. The worksheet produces the correct result when entries are made according to instructions, and there’s no reason to believe you’ve made an error, other than failing to understand a rule that is convoluted enough that almost anyone would find it confusing.

    Where you went wrong was in assuming that because you had $20,126 on the line that gives the number taxed at zero percent, you must “have room for more.” At first blush this would seem to be true, because the dollar limit on the amount taxed at zero percent is greater than $20,126. For 2020 it’s $80,000 on a joint return, $53,600 for heads of household, and $40,000 for others.

    However, this dollar limit applies to overall taxable income. In 2020, if you’re single and have ordinary income (the kind that does not qualify for special rates) of $19,847, then the maximum amount of qualified dividend or long-term capital gain that can be taxed at zero percent is $20,126. The ordinary income (such as wages, pensions and interest income) used up nearly half of the $40,000 dollar amount that is potentially subject to zero percent if all your income were CG and qualified dividends. This means that if you already have at least $20,126 in those categories, adding another $10,000 in qualified dividends won’t increase the amount taxed at zero percent, because you don’t actually have “room for more.”

    The figures would change if we’re looking at a different year or a different filing status, but the concept remains the same. The amount of ordinary income on your return reduces the ceiling on the amount of CG or qualified dividend taxed at zero percent. If you’ve reached that lower ceiling, an increase in CG or qualified dividend won’t increase the amount taxed at zero percent.

    #13097
    friendship7
    Participant

    Thank you Mr. Thomas for explaining this in clear English. I wish the IRS instructions were as clear. These forms are so convoluted in getting to the bottom line, you can’t be sure where the numbers are headed or what they really mean. I’m relieved that I don’t have to tackle amended returns for the last few years.

    Thanks again, this forum provides a valuable service to us old-timers that prefer to do our own taxes.

    #13311
    kaneohe
    Participant
    #13312
    kaneohe
    Participant

    you might want to double check w/ a calculator

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