What Is a Gain?
Let me explain what a gain is—it's simply a general increase in the value of an asset or property you own. You see a gain if the current price of something is higher than what you originally paid for it. For accounting and tax purposes, I classify gains in several ways, like gross versus net gains or realized versus unrealized paper gains. Capital gains also get broken down into short-term versus long-term types.
You can contrast a gain with a loss, which happens when your property or assets drop in value compared to the purchase price. Essentially, a loss is just a negative gain.
Key Takeaways
- A gain arises if the current price of something you own is higher than the original purchase price.
- You might talk about gains whenever the market price of an asset exceeds what you paid, but unrealized gains can fluctuate many times before you sell the asset.
- Once you sell an asset that has gained value, you've realized the gain—or, in simple terms, made a profit.
Understanding a Gain
A gain refers to the positive difference between what you paid for something at acquisition and its current price. If I calculate a net gain, I factor in transaction costs and other expenses. Gains can be realized or unrealized—you realize a gain when you sell the asset and receive the profit, while an unrealized gain, or paper gain, is the value increase while you still own it and haven't sold yet.
Another key distinction is whether gains are taxable or non-taxable, since taxes can significantly reduce what you actually keep from a gain. For you as an investor or trader, a gain can happen at any point in an asset's life. Say you own a stock you bought for $15, and the market now values it at $20—you're sitting on a $5 gain. But remember, that gain only truly counts when you sell and realize it as profit. Assets can go through many unrealized gains and losses as the market constantly revalues them.
Gains and Taxes
In most places, you pay capital gains tax on realized gains. This tax applies not just to traditional assets but also to things like coins, art, or wine collections. The tax amount depends on the asset type, your personal income tax rate, and how long you've held the asset. Short-term gains usually get taxed as ordinary income, while long-term gains—those held over a year—are taxed at lower rates.
You can offset a capital gain with a capital loss. For example, if you have a $50,000 gain on stock A and a $30,000 loss on stock B, you only pay tax on the net $20,000 gain. If your gains are in a non-taxable account, like an IRA in the U.S. or an RSP in Canada, you won't pay taxes on them. For taxation, it's net realized gains that matter, not gross ones—in a stock sale, the taxable gain is the sale price minus purchase price, after subtracting brokerage commissions.
Taxable Gain Example
Here's how a taxable gain works in practice: Suppose Jennifer buys 5,000 shares at $25 each, totaling $125,000. She then sells them at $35 each, for $175,000. Her commission is $200. So, her taxable gain is $49,800—that's ($175,000 - $125,000) minus $200.
Compounding Gains
Warren Buffett points to compounding gains as a major factor in building wealth—it's where gains add to existing gains over time. Take $10,000 invested in a stock that gains 10% in a year, giving you $1,000. The next year, another 10% on $11,000 gives $1,100, and in the third year, 10% on $12,100 gives $1,210. If you start compounding early, time works in your favor to create substantial wealth.
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