What Is Capital Gains Tax?

Capital gains tax is the tax paid on the profits from selling an asset at a price higher than what it was bought for. Capital gains tax is paid on all types of assets including stocks, bonds, rental properties, and other collectibles. The amount of capital gains that are owed depends on your income, filing status, and length of ownership.

Capital gains tax is only paid on realized profits and not on unrealized profits. Profits become realized when the investment is sold. When the investment is not sold, the profits are unrealized and are not subject to capital gains tax. If the investment is sold at a loss, the investor can realize losses and offset capital gains from other investments.

Capital Gains And Losses Chart

Long Term Capital Gains Tax

You have to pay long term capital gains tax if you hold your investment for longer than one year. The long-term capital gains tax rate ranges between 0%, 15%, and 20%, depending on your income and filing status.

Federal Long-Term Capital Gains Tax Rates

For example, if you bought art in January 2022 and sold it in January 2024, you will have to pay long-term capital gains tax on the profits from the investment because you held it for longer than one year. Our Capital Gains Calculator can be used to estimate long-term capital gains tax owed on the profit from your investment.

The tax rate you pay on long-term capital gains can be 0%, 15%, or 20% depending on how much your annual income is. The brackets for these tax rates can also differ according to your filing status. The tax rates on long-term gains are generally lower than the tax rates on short-term capital gains. The lower rates on long-term capital gains tax incentivizes investors to hold their investments longer and avoid paying hefty short-term rates.

Long-term capital gains can only be offset by long-term losses. This means that if you incur a capital gain from the sale of one asset and a capital loss from another asset, you can deduct the capital loss from the capital gain, thus lowering your capital gains tax liability. In the case that your capital losses exceed your capital gains, you can claim a maximum of $3000 (or $1500 if married and filing separately) to lower your income. If the capital loss exceeds the limit, you can also carry the losses forward to another year and apply these capital losses in the future.

Short Term Capital Gains Tax

When an investment is held for 1 year or less, an investor has to pay short-term capital gains tax. The feature of a short term capital gains tax is that it is considered regular income, so an investor will pay income tax on it. Short-term capital gains taxes tend to be higher than long-term capital gains taxes, so your investment may yield a lower return than your expected ROI. This is done to encourage investors to hold investments for a longer period of time.

Short-Term Capital Gains Tax Rates By Year

For example, if you bought a property in May 2022 and sold it in December 2022, you will have to pay short-term capital gains tax on the profits from your property because it was sold in less than one year. Our Capital Gains Tax Calculator can be used to calculate short-term capital gains tax on your investment.

The amount you can be taxed on the short-term capital gains depends on your income tax rate. This means that the tax rate can be anywhere from 10% to 37%. Keep in mind that the short-term capital gains have to be added to your income first to determine the tax rate. Short-term capital gains increase your taxable income and could push you into a higher tax bracket. You should consider these factors before deciding to sell an investment to realize your short-term gains.

Short-term capital gains can be offset by short-term capital losses. That is, if you buy and sell two investments throughout the year, one of which makes a capital gain and the other a capital loss, you can deduct the loss from your gain to figure out your net short-term capital gain. However, if you incur a short-term capital gain and a long-term capital loss, you cannot use the long-term loss to offset the short-term gain.

Short Term vs Long Term Capital Gains Tax

There are four main differences between how short term gains and long term gains are taxed. Understanding the differences may help you see the benefits and drawbacks associated with realizing profits on your investments too early or a little bit later. The following chart provides you with a quick overview of the differences between different types of capital gains tax.

Short Term vs Long Term Capital Gains

Holding period of investment → When you hold your investment for 1 year or less before you sell it, your capital gain (or loss) is classified as a short-term capital gain (loss). When you hold your investment for more than one year before selling it, your gain (or loss) will be a long-term capital gain (loss).

Taxing Rules → Short-term capital gains are taxed like regular income. Long term capital gains have their own tax brackets that are lower than short-term capital gains brackets. Long term capital gains tax still take into account your income.

Tax Rate Ranges → Short-term capital gains can be taxed at a rate from 10% to 37% depending on your income tax bracket. Long-term capital gains are taxed at a rate of 0%, 15%, or 20%.

State Capital Gains Tax

Different states choose different strategies to tax capital gains. Most states treat capital gains as income, with some offering a flat tax rate and even no tax on capital gains. Every state offers different capital gains tax, and it may reach up to 13%, so it is important to consider your state when calculating capital gains tax.

Crypto Capital Gains Tax

Cryptocurrency follows the same tax procedure as the other forms of assets. If you hold your cryptocurrency for a period of less than one year, then the capital gains realized from the transaction will be considered short-term. On the other hand, if you hold it for more than a year, you will realize long-term capital gains, which are taxed differently. Depending on your level of income and your tax filing status, the tax rate on short-term capital gains varies from 10% to 37%, the same rates as ordinary income is taxed at. Meanwhile, the tax rate on long term capital gains can either be 0%, 15% or 20%.

When Do You Pay Taxes on Crypto?

You will need to report the capital gains realized from a cryptocurrency transaction every time in one of the following 3 scenarios:

• You Sell Cryptocurrency for Fiat Money

  Imagine that you used $900 to purchase one bitcoin in January 2017. After some time, you sold your assets and received $55,000 in return. This is a taxable event, and you are required to pay taxes on the long-term capital gains that you realized. The capital gains will be equal to $55,000 - $900 = $54,100.

• You Exchange Cryptocurrency for a Good or Service

  You purchased 3 ETH a few years ago, and you want to use them to purchase a grand piano. Each ETH cost you $1142, while the grand piano costs $8,000. This means that, you have to pay capital gain taxes on $8,000 – 3 x $1142 = $4574.

• You Swap One Cryptocurrency for Another

  Like swapping USD for Euro and vice versa, you can swap one cryptocurrency for another. Suppose you purchased 20 ETH for $7600. After that, you chose to trade 16 ETH for 1BTC worth $57,284. In this case, the capital gains will be $57,284 - $7,600 ⁄ 20 x 16 = $57,284 - $6,080 = $51,204. Since this is a taxable event, you will have to report it.

Frequently Asked Questions

How Much Is Capital Gains Tax?

Capital gains tax rate is determined by your income, filing status, and length of ownership of the capital asset. There are some retirement accounts that allow you to avoid capital gains tax. The accounts such as traditional IRA and Roth IRA are good examples of tax-free accounts. Our capital gains tax calculator can provide you an accurate tax rate for your investment based on your personal situation.

How Does Capital Gains Tax Work?

Capital gains tax as shown above is calculated on the realized gain on investments when sold. You can also make a loss on an investment and claim it as a tax loss if you sell your investment at a lower price than you bought it.

• Capital gains tax applies to the sale of all types of investment such as stocks, bonds, properties, cars, and many other tangible items.
• The profit you make from selling an item at a higher price is your capital gain. If you sell an item for less than it was purchased for, then you have a capital loss.
• You can reduce your total tax bill by claiming capital losses against capital gains. For example, if you have a capital gain of $5,000 and a capital loss of $2,000, your tax will only be applied to $3,000 of capital gain. This is called your Net Capital Gain.
• If your capital loss is greater than your capital gain, then you can claim a tax deduction of up to $3,000 per year.
• Capital gains tax is progressive, just like income taxes.

Are Dividends Taxed as Capital Gains?

Most dividends are not taxed as capital gains. Dividends received from the investment are usually taxed as ordinary income. On the other hand, some qualified dividends may be taxed at a lower rate of long-term capital gains.

How Is Capital Gain Tax Calculated on the Sale of a Property?

If you are a homeowner or are looking to sell an investment property, capital gains tax may be a significant expense to consider. Just like other assets such as stocks and bonds, capital gains tax is applied to any profit from selling a property.

The cost basis is what you paid for the home, any closing costs, and non-decorative investments such as getting a new roof. Other expenses such as real estate agent commission and fees can also be included in the cost. Now you subtract that from the sale price to get the capital gains.

Capital gains from selling primary residences can be deducted. To qualify for this benefit, you must have used the home as your primary residence for at least 2 years out of the last 5-year period before you sell. No other home should be excluded from capital gains in the past 2 years. If you meet these requirements, you can be eligible to exclude $250,000 (single) and $500,000 (married, filing jointly) in gains from a home sale.

If the home is inherited, you cannot make use of the home sale exemption of $250,000 unless you owned the home for at least 2 years as the primary residence. You can also get a tax break on a property as a step-up in basis. For example, if your family member’s home’s cost basis is $300,000, and the current market value is $400,000, once the ownership changes to you, you are stepped up to a cost basis of $400,000. Therefore, if you sell the house in the future for $500,000, you only pay capital gains tax on $100,000 ($500,000 - $400,000).

How to Avoid Capital Gains Tax?

There are several strategies to reduce your total capital gains tax:

1. Avoid short-term gains: If you can hold for a year and longer, you should consider avoiding the higher short-term capital gains tax. Long-term capital gains are much lower than short-term for a majority of assets. Our calculator can show you how much you can save by holding on for the long term.
2. Exclude home sales: There are quite a few ways to avoid paying taxes on the sale of your properties. One of the strategies available for US citizens is to deduct up to $250,000 for filing separately and $500,000 for married filing jointly for primary residences. Another way to avoid paying taxes on the sale of a property is to swap one property for another using a 1031 exchange that allows you to swap properties of similar value without paying capital gains taxes. The last option available for sellers to avoid taxes is to pass off the property as an inheritance and pay inheritance tax instead.
3. Dividend strategy: Dividends are paid to shareholders of a company. Dividends are usually reinvested into the same investment that earned them, rather than doing this, they can be moved to underperforming investments. Usually, rebalancing is done by selling high-performing securities and then investing in underperforming investments, however, the dividend strategy will help you avoid selling high-performing investments and their capital gains tax. Dividends allow you to receive income from your investment without selling the stock for a recognized capital gain.
4. Tax-advantage accounts: 401(k) plans, retirement accounts, and college savings accounts are accounts where investments grow tax-free or tax-deferred. You will not have to pay capital gains tax if you sell within these accounts.
5. Carry losses over: In a certain tax year, you can only claim a set amount of loss which is $3,000. If your net capital loss exceeds the limit, you can deduct it from next year’s gain.

What Are Exceptions to Capital Gains Tax?

The above-stated rates and calculator can be applied to most assets, however, there are a few exceptions to the rule. “Collectible Assets” such as coins, metals, and fine art are taxed at 28% as their long-term capital gains tax rate. The short-term capital gains tax rate is determined using the income tax rate.

• Any analysis or commentary reflects the opinions of Casaplorer.com (a part of Wowa Leads Inc.) analysts and should not be considered financial advice. Please consult a licensed professional before making any decisions.
• The calculators and content on this page are for general information only. Casaplorer does not guarantee the accuracy and is not responsible for any consequences of using the calculator.
• Interest rates are sourced from financial institutions' websites.