What To Know About The Tax Pitfalls Of Robinhood

Robinhood has been in the news lately because of its recent IPO and its meteoric rise as one of the top investment apps on the market. However, as with all things good, there are tax pitfalls to being a Robinhood investor that you should be aware of and plan accordingly. With that in mind, we’re going to give you information on what to know about the tax pitfalls of Robinhood, so you don’t get caught by surprise come tax season.

Dividends

Robinhood doesn’t track whether an investment is paying a dividend or not, but any time you sell a stock for more than its purchase price, you have to pay taxes on that capital gain. Robinhood won’t remind you, but your gains are taxable. Depending on your income bracket and whether or not you invest inside an IRA, those dividends could get taxed at 0%, 15%, or 20%. The best way to stay on top of how much capital gains taxes you owe every year is through TurboTax. They also offer extensions that can give you as much as six months from April 15th to file without penalty. (However, if you don’t have enough money withheld from your paycheck throughout the year, you might still end up owing penalties.) If you’re investing within an IRA, then there are different rules about when your investments are taxed, If you withdraw funds before age 59 1/2, then all withdrawals will be considered early distributions, which means they will likely incur additional taxes.

Short-term capital gains

Robinhood doesn’t pay short-term capital gains taxes, so you’ll only owe a 15% long-term capital gains rate on any profits. For example, if you buy stock and sell it six months later at a 10% profit, that 10% increase would only count as 5% when you file your taxes since it’s considered a short-term gain. Long-term capital gains, You should pay long-term capital gains on investments held for longer than one year (if you’re in lower-income brackets). If you make more than $38,600 per year ($77,200 if married filing jointly), then any investment held for less than two years is taxed at your ordinary-income tax rate. This means that even with Robinhood, you’ll still have to report those gains—just not pay additional taxes on them.

Options trading

Robinhood is a stock-trading app with a cult following. It’s been described as Facebook for financial companies and makes money off options trading. But Robinhood could cause more headaches than it’s worth for some traders due to something called wash sale rules. Wash sales occur when you sell an investment at a loss, then buy substantially identical shares within 30 days before or after that sale. Wash sales are disallowed by most brokerages because they can trigger taxable events even if you don’t actually make any money on them. If you do have losses in your portfolio, make sure you understand how they work before you sign up for Robinhood and start making trades. Otherwise, you might end up with a nasty surprise come tax time. For example, let’s say you’re day trading stocks using Robinhood. You decide to close out your position in Company X after a huge loss and buy Company Y instead. A few weeks later, you get hit with a $10,000 bill from Robinhood for wash sale violations. In reality, you didn’t lose $10,000, you just lost $10,000 worth of Company X shares.

Redemptions from traditional IRAs

This is another pitfall that Robinhood users may encounter. If you withdraw money from a traditional IRA account before age 591, you’ll typically owe a 10% early withdrawal penalty on top of any ordinary income taxes. In addition, if you’re underage 591 and withdraw money from your Roth IRA, you’ll also have to pay taxes on your earnings. However, if you meet certain requirements. for example, if you use your Roth IRA funds for a first-time home purchase, you can avoid paying taxes on both your contributions and earnings. Be sure to consult with a financial advisor or accountant before making any withdrawals. In case you haven’t heard, it’s never a good idea to do your own taxes. The best way to keep yourself out of trouble when it comes to taxes is to make sure you know what you’re doing. That means talking with a qualified professional who can help guide you through all of your options, and then follow their advice.

High basis shares from non-qualifying contributions

The major pitfall here is that you’ll pay taxes on a gain, even though you didn’t receive any cash. In other words, if you sell shares for $1,000 and your basis is $500, then you have a $500 taxable gain. Robinhood does not report basis to IRS and there are no wash sale rules for Robinhood. This means that if you sell shares at a loss in Robinhood and buy them back within 30 days, it won’t reduce your taxable gain from selling at a loss. You can use Form 8949 to track all your trades during the year and enter them on Schedule D when filing taxes. If you don’t have enough gains or losses to offset each other, then you will owe capital gains taxes. For example, if you made money trading stocks but lost money trading options, only your stock profits will offset your losses. Your remaining capital losses will carry over into future years and offset future capital gains until they are used up. If they aren’t used up by April 15th of next year, they’re gone forever!

Early withdrawals from traditional IRAs

This is another pitfall that Robinhood users may want to watch out for. While you can withdraw your contributions from a traditional IRA at any time, withdrawals from a Roth IRA are subject to income limits and early withdrawals will incur a 10% penalty. For example, if you’re underage 591 and have held your Roth IRA for less than five years, you could face an early withdrawal penalty on any distributions that are not qualified. Early withdrawals from a 401(k) plan or other employer-sponsored retirement plans can also come with a hefty fee (typically 10%). If you do take money out before reaching retirement age, it’s best to consult with a financial advisor about whether or not taking an early distribution makes sense for your individual situation. It might make sense in some cases for instance, if you need money quickly in order to buy a house—but it might not make sense in others.

Conclusion

These are some of the pitfalls that Robinhood investors should avoid. If you want to invest in stocks but don’t want to deal with all of that then Robinhood is a great choice for you. However, if you are investing for retirement or something else that is long-term, then it might not be right for you. You will have to pay taxes on your profits and if they go up, so will your taxes.