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Written by Ed Canty, CFP® on February 5, 2023
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M1 Finance Taxes Explained 2023: How Are Investment Taxes Handled?

When you sign up for an M1 Finance account, you have to give them certain information like your name, address, and social security number. This means that they are in fact reporting your investment activity to the IRS, which they have a legal obligation to do.

That being said, it is important to understand and report all investment activity.

On a surface level, you either pay short-term capital gains or long-term capital gains on your investment income.

As far as dividends go, you have both ordinary dividends and qualified dividends.

You also have to pay taxes on any interest earned if you use their checking account.

M1 Finance gets a little more complicated than your run-of-the-mill tax situation.  For starters, the rebalancing feature can result in a taxable event. Also, M1 has some built-in tax minimization features that you should be aware of which we will explain shortly.

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Taxes On Capital Gains

In a regular taxable brokerage account, any sell trades resulting in a gain or loss will incur a taxable event.

If you profit on the sale of the security it will result in a capital gain.

If there is a loss then you will have a capital loss.

There will be tax implications either way. Capital gains are subject to taxation, and capital losses can be used to offset gains or even offset ordinary income as a write-off. 

First, all capital losses are used to offset capital gains, assuming there are excess gains then you will have to pay taxes on that income. 

If you had $5,000 of capital gains and $3,000 of capital losses, you would now have just $2,000 of capital gains to pay taxes on.

Capital gains and losses are categorized by short-term and long-term. 

Short-term gains will be taxed at your ordinary-income tax rate

Long-term gains are taxed at either 0%, 15%, or 20% depending on your ordinary income tax bracket

In a nutshell, you pay less in taxes by holding investments longer. Short-term capital gains are from investments held for 1 year or less. Long-term capital gains are for investments held for over 1 year.

This is why M1 Finance's tax minimization strategy can be helpful. The platform will attempt to minimize taxes by incurring more long-term gains, rather than short-term gains which will result in a lower tax liability. 

Taxes On Dividends/Interest

Through the M1 investing app, you can earn both ordinary and qualified dividends. You can also earn interest via the checking account. All of these incomes are taxable.

Ordinary dividends are taxed at your ordinary-income tax rate.

Qualified dividends are certain dividends from US companies that qualify to be taxed at the long-term capital gains rate. You also have to meet a minimum holding period. A few common investments that DO NOT qualify for this are REITs and MLP's. These have their own unique tax treatments.

Interest income is taxed at your ordinary-income tax rate.

However, there are some exceptions such as municipal bonds, which earn interest tax-free from the US Government.

They could also be tax-free within your state, but that obviously depends on individual state laws.

M1 Finance Tax Minimization Feature

M1 Finance has a feature called tax minimization which aims to move money in and out of your account in the most tax-efficient manner.

Tip: If you want to invest tax-sheltered, consider the M1 Finance Roth IRA.

When you withdraw money from M1, they sell stocks/ETFs prioritizing them by:

  1. Losses that offset future gains 
  2. Lots that result in long-term gains 
  3. Lots that result in short-term gains

M1 does help you minimize your tax bill with the above strategy. 

When Does M1 Finance Make Tax Forms Available?

Below is a list of what documents you might expect and when you can expect to receive them:

  • 1099-INT: Early February
    • This form is used to report any interest earned via the M1 Finance checking account
  • 1099-R: Early February
    • This report contains information regarding any distributions from your Traditional, Roth, or SEP IRAs
  • Consolidated 1099: Early February
    • This report informs the IRS of any taxable event on an individual or joint account
  • Form 5498: Early June
    • This form will report any and all contributions made to a retirement account during the year

Where To Download My Tax Forms

To download your tax forms, you can follow the steps below on M1's website:

1. Log into your M1 account.
2. Click your name at the top right
3. Click “View Account Settings”
4. Click the ‘Documents’ tab and make sure only ‘Tax Forms’ is selected
5. Once that is selected, you will see the tax form(s) if they were generated for your account(s)

Only the relevant forms will be generated. If there is an error on a form or if a form is missing, then you can email M1's customer service team.

What Is Tax Loss Harvesting?

In essence, tax loss harvesting is the sale of assets for a loss to offset the potential tax burden of capital gains. Although it can be used for both, tax loss harvesting is most commonly associated with short-term capital gains taxes since they are taxed at a higher rate than long-term.

While the M1 Finance app offers incredible features that help investors save for the long-term, they do not offer this type of tax loss strategy.

For many, tax loss harvesting is an important step to safeguard their gains from profitable investments. When an investor has a realized gain, he or she will be obligated to pay capital gains taxes. Depending on how long the investor has held the asset, they could be forced to pay up to 37% on the gains.

By ‘harvesting’ losses from other stocks, investors can decrease the tax liability incurred from the gains. A user does this by simply selling the stock that has a loss in order to realize a loss for their portfolio.

Regulations Around Tax Loss Harvesting

Investors should be aware that when an investor does sell a stock at a loss, there are regulations to be aware of. Users may not benefit from the loss if they sell and then repurchase a stock that is ‘substantially identical’. This regulation is in force for at least 30 days after a sale.

Investors should be aware of this before engaging in tax loss harvesting.

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Article written by Ed Canty, CFP®
Ed is a CERTIFIED FINANCIAL PLANNER™. At his day job, Ed helps clients plan for retirement, manage their investments, and navigate their tax situation. In his free time, Ed enjoys golfing, traveling, fishing, and wrenching on his old car.

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