Investing in stocks, real estate, or collectibles can be highly rewarding. However, when it comes time to sell those assets, any profit will trigger a ‘capital gains’ tax. It is important to recognize, though, that depending on the duration you held the asset, capital gain taxes will vary. The most effective way to ensure you keep as much of your profits as possible, is to ensure you have held your asset for at least one full year, which will then result in the application of a long-term capital gains tax. Below, we look closer at what this means, and how understanding capital gains taxes will allow you to minimize your tax liabilities.
Understanding Capital Gains
As mentioned, capital gains are the profits you earn upon selling an asset for more than its purchase price. The taxable gain is determined by subtracting your cost basis – which includes the original price plus any fees – from the sale price.
Until you sell the asset, any increase in its value is an “unrealized gain” and is not taxed.
Short-Term vs. Long-Term Capital Gains
In the United States, the IRS distinguishes between short- and long-term gains based on how long you hold the asset:
- Short-Term Gains: Sold within one year; taxed at your ordinary income rates (10% to 37%).
- Long-Term Gains: Held for more than one year; taxed at preferential rates of 0%, 15%, or 20%, depending on your taxable income.
This lower tax rate for long-term gains encourages prolonged investment, helping your returns compound over time.
Tax Brackets for Long-Term Capital Gains
For both 2024 and 2025, long-term capital gains are taxed according to your total taxable income. It’s important to understand that these brackets apply to your total taxable income, including any capital gains. Your capital gains are added to your other income, and the total amount determines which tax bracket, and therefore which rate, applies to your gains. For example, if your total taxable income, including capital gains, exceeds $518,900 as a single filer in 2024, some or all of your long-term capital gains could be taxed at the 20% rate, even if the gain itself falls within the 15% bracket.
For example, in 2024:
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Single Filers:
- 0% on gains up to $47,025
- 15% on gains from $47,026 to $518,900
- 20% on gains over $518,900
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Married Filing Jointly:
- 0% on gains up to $94,050
- 15% on gains from $94,051 to $583,750
- 20% on gains over $583,750
In 2025, these thresholds are slightly higher to account for inflation. Additionally, high-income earners may be subject to the 3.8% Net Investment Income Tax (NIIT). This tax applies if your modified adjusted gross income exceeds $200,000 for single filers or $250,000 for married couples filing jointly. Be sure to factor this additional liability into your overall tax planning.
Special Considerations for Different Asset Classes
Different asset classes follow unique tax rules. For instance, if you sell your primary home after living in it for at least two of the past five years, you might exclude up to $250,000 of the gain (or $500,000 for married couples).
Investment properties, however, incur depreciation recapture taxed at 25%, which partly offsets earlier tax benefits.
Likewise, collectibles such as art or certain NFTs can be taxed at up to 28%, while qualified small business stock held for more than five years might receive preferential treatment, though some gains may still be taxed at higher rates.
Strategies to Manage Your Capital Gains Tax Liability
Effective tax planning can help you retain more of your profits. Here are a few key strategies:
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Tax-Advantaged Accounts:
Investing through a 401(k), Traditional IRA, or Roth IRA can defer or even eliminate capital gains taxes. With Roth IRAs, qualified withdrawals are tax-free. -
Monitor Your Holding Periods:
Aim to hold assets for more than a year to benefit from lower tax rates. Many brokerage platforms now provide tools to track your holding period. -
Tax-Loss Harvesting:
Selling underperforming investments can generate losses that offset gains, reducing your taxable income. Just be cautious of the wash sale rule, which disallows the loss deduction if you repurchase substantially identical assets within 30 days before or after the sale, so plan your trades accordingly. -
Leverage Technology and Professional Advice:
Robo-advisors and modern brokerage tools can optimize your portfolio’s tax efficiency. Consulting with a tax professional can also help tailor strategies to your unique financial situation.
Federal and State Tax Considerations
While federal taxes on capital gains are a major consideration, state taxes can also significantly impact your overall tax liability. Most states tax capital gains as ordinary income, though some offer preferential rates.
A few states—such as Alaska, Florida, Nevada, South Dakota, Tennessee, Texas, and Wyoming—have no income tax, reducing your overall burden.
Other states may provide credits or lower rates for long-term gains, making it essential to understand local tax policies as part of your financial planning.
Conclusion
The long-term capital gains tax offers a valuable advantage for investors willing to hold assets for over a year, resulting in tax rates of 0%, 15%, or 20% compared to the higher rates applied to short-term gains.
Whether your investments are in stocks, real estate, collectibles, or small business ventures, understanding these tax rules and integrating thoughtful planning into your strategy can help you maximize your returns.
By keeping accurate records, utilizing tax-advantaged accounts, and seeking professional advice when needed, you can manage your tax liability effectively and set yourself up for long-term financial success.
Remember that tax laws can change, so it’s important to review your strategy regularly and consult a tax professional to stay current with the latest regulations.