When you sell a capital asset for more than you paid for it, the result is a capital gain. Capital assets include stocks, bonds, precious metals, jewelry, and real estate. The tax you'll pay on a capital gain depends on how long you held the asset before selling it. Capital gains are classified as either long-term or short-term and are taxed accordingly.

Long-term capital gains are derived from assets that are held for more than one year before they are disposed of. Long-term capital gains are taxed according to graduated thresholds for taxable income at 0%, 15%, or 20%. (Although there are some exceptions where capital gains may be taxed at rates greater than 20%).

Key Takeaways

  • When you sell a capital asset for more than you purchased it, the result is a capital gain.
  • Short-term capital gains result from selling capital assets owned for one year or less.
  • Long-term capital gains result from selling capital assets owned for more than one year.
  • Assets that are subject to capital gains tax include stocks, bonds, precious metals, real estate, and property.
  • Short-term gains are taxed as regular income, according to the U.S. income tax brackets.
  • Long-term gains are subject to unique tax brackets that are generally more favorable than the regular income tax brackets.

A short-term capital gain results from an asset owned for one year or less before it is disposed of. While capital gains are generally taxed at a more favorable rate than salary or wages, gains that are classified as short-term do not benefit from any special tax rates; they are subject to taxation as ordinary income. As regular taxable income, short-term gains are subject to one of seven tax rates that correspond to the seven federal tax brackets in the U.S., with rates ranging from 10% to 37%.

Net capital gains are calculated based on your adjusted basis in an asset—what you paid to acquire the asset, less depreciation, plus any costs you incurred during the sale of the asset and the costs of any improvements you made. If an asset is given to you as a gift, you inherit the donor's basis.

The tax on a long-term capital gain is almost always lower than if the same asset were sold (and the gain realized) in less than a year. Because long-term capital gains are generally taxed at a more favorable rate than short-term capital gains, you can minimize your capital gains tax by holding assets for a year or more.

Long-Term Capital Gains Rates

After the passage of the Tax Cuts and Jobs Act (TCJA) in 2018, the tax treatment of long-term capital gains changed. Prior to 2018, the tax brackets for long-term capital gains were closely aligned with income tax brackets. TCJA created unique tax brackets for long-term capital gains tax. These numbers generally change from year to year.

Tax Rates for Long-Term Capital Gains 2019 (2020)
 

Filing Status

 

0% rate

 

15% rate

 

20% rate

 

Single

 

Up to $39,375 ($40,000)

$39,376 to $434,55 ($40,000 to to $441,450)

Over $434,550 ($441,450)

 

Head of household

Up to $52,750 ($53,600)

 

$52,751 to $461,700 ($53,600 to $469,050)

Over $461,700 ($469,050)

 

Married filing jointly 

Up to $78,750 ($80,000)

$78,751 to $488,850 ($80,000 to $496,600)

Over $488,850 ($496,600)

 

Married filing separately

 

Up to $39,375 ($40,000)

$39,376 to $244,425 ($40,000 to $248,300)

Over $244,425 ($248,300)

Short-Term Capital Gains Tax Rates

Short-term capital gains are taxed as though they are ordinary income. Any income you receive from investments you held for less than a year must be included in your taxable income for that year. For example, if you have $80,000 in taxable income from your salary and $5,000 from short-term investments, your total taxable income is $85,000.

The tax you'll pay on short-term capital gains follows the same tax brackets as ordinary income.

Tax Rates for Short-Term Capital Gains 2019 (2020)
Filing Status 10% 12% 22% 24% 32% 35% 37%
Single Up to $9,700 ($9,875) $9,701 to $39,475
($9,876 to $40,125)
$39,476 to $84,200
($40,126 to $85,525)
$84,201 to $160,725
($85,526 to $163,300)
$160,726 to $204,100
($163,301 to $207,350)
$204,101 to $510,300
($207,351 to $518,400)
Over $510,300
($518,400)
Head of household Up to $13,850 ($14,100) $13,851 to $52,850
($14,101 to $53,700)
$52,851 to $84,200
($53,701 to $85,500)
$84,201 to $160,700
($85,501 to $163,300)
$160,701 to $204,100
($163,301 to $207,350)
$204,101 to $510,300
($207,351 to $518,400)
Over $510,300 ($518,400)
Married filing jointly Up to $19,400
($19,750)
$19,401 to $78,950
($19,751 to $80,250)
$78,951 to $168,400
($80,251 to $171.050)
$168,401 to $321,450
($171, 051 to $326,600)
$321,451 to $408,200
($326,601 to $414,700)
$408,201 to $612,350
($414,701 to $622,050)
Over $612,350
($622,050)
Married filing separately Up to $9,700 ($9,875) $9,701 to $39,475
($9,876 to $40,125)
$39,476 to $84,200 ($40,126 to $85,525) $84,201 to $160,725
($35,526 to $163,300)
$160,726 to  $204,100
($163,301 to ($207,350)
$204,101 to $306,750
($207,351 to $311,025)
Over $306,750
($311,025)

Ordinary income is taxed at differing rates depending on your income. It's possible that a short-term capital gain—or part of it at least—might be taxed at a higher rate than your regular earnings. That's because it might cause part of your overall income to jump into a higher tax bracket.

For example, using the 2019 federal income tax rates, and assuming you are filing that income as a single person, you'd be in the 22% tax bracket with your taxable income from your salary. However, because of the progressive nature of the federal tax system, the first $9,700 you earn would be taxed at 10%, your income from $9,701 up to $39,475 would be taxed at 12%, and only the income from $39,475 to $80,000 would be taxed at 22%.

Part of your $5,000 capital gain—the portion up to the $82,199 limit for the bracket—would be taxed at 22%. The remaining $2,801 of the gain, however, would be taxed at 24%, the rate for the next-highest tax bracket.

Capital Gains Special Rates and Exceptions

Some assets receive different capital-gains treatment or have different time frames than the rates indicated above.

Collectibles

You're taxed at a 28% rate—regardless of your income—for gains on art, antiques, jewelry, precious metals, stamp collections, coins, and other collectibles.

Small Business Stock

The sale of qualified small business stock (QSBS) is treated favorably for capital gains purposes. Under Section 1202 of the Internal Revenue Code—the Small Business Stock Gains Exclusion—the capital gains from qualified small businesses are exempt from federal taxes.

The tax treatment of a qualified small business stock depends on when the stock was acquired and how long it was held. In order to qualify for this exemption, the stock must have been acquired from a qualified small business after Aug. 10, 1993, and the investor must have held the stock for at least five years. This exclusion has a cap of $10 million, or 10 times the adjusted basis of the stock—whichever is greater. Any capital gains above that amount are subject to a 28% rate.

Owner-Occupied Real Estate

There's a special capital gains arrangement if you sell your principal residence. The first $250,000 of an individual's capital gains on the sale of your principal residence is excluded from taxable income ($500,000 for those married filing jointly) as long as the seller has owned and lived in the home for two of the five years leading up to the sale. If you sold your home for less than you paid for it, this loss is not considered tax-deductible, because capital losses from the sale of personal property, including your home, are not tax-deductible.

For example, a single taxpayer who purchased a house for $300,000 and later sells it for $700,000 made a $400,000 profit on the sale. After applying the $250,000 exemption, they must report a capital gain of $150,000. This is the amount subject to the capital gains tax.

In most cases, significant repairs and improvements can be added to the base cost of the house. These can serve to further reduce the amount of taxable capital gain. If you spent $50,000 to add a new kitchen to your home, this amount could be added to the $300,000 original purchase price. This would raise the total base cost for capital gains calculations to $350,000 and lower the taxable capital gain from $150,000 to $100,000.

Investment Real Estate

Investors who own real estate are often allowed to apply deductions to their total taxable income based on the depreciation of their real estate investments. This deduction is meant to reflect the steady deterioration of the property as it ages, and essentially reduces the amount you're considered to have paid for the property in the first place. This also has the effect of increasing your taxable capital gain when the property is sold.

For example, if you paid $200,000 for a building and you're allowed to claim $5,000 in depreciation, you'll be treated subsequently as if you'd paid $195,000 for the building. If you then sell the real estate, the $5,000 is treated as recapturing those depreciation deductions. The tax rate that applies to the recaptured amount is 25%.

So if you sold the building for $210,000, there would be total capital gains of $15,000. But $5,000 of that figure would be treated as a recapture of the deduction from income. That recaptured amount is taxed at 25%, where the remaining $10,000 of capital gain would be taxed at one of the 0%, 15%, or 20% rates indicated above.

Investment Exceptions

High-income earners may be subject to another tax on their capital gains, called the net investment income tax. This tax imposes an additional 3.8% on your investment income, including your capital gains if your modified adjusted gross income (MAGI) exceeds certain maximums: $250,000 if married and filing jointly or you're a surviving spouse, $200,000 if you're single or a head of household, and $125,000 if married filing separately.

Advantages of Long-Term Over Short-Term Capital Gains

It can be advantageous to keep investments for longer if they will be subject to capital gains tax once they're realized.

The tax rate will be lower for most people if they realize a capital gain in more than a year. For example, suppose you bought 100 shares of XYZ stock at $20 per share and sold them at $50 per share. Your regular income from earnings is $100,000 a year and you are part of a married couple that files jointly. The chart below compares the taxes you'd pay if you held and sold the stock in more than a year and less than a year.

How Patience Can Pay Off in Lower Taxes
Transactions and consequences Long-term capital gain Short-term capital gain
Bought 100 shares @ $20 $2,000 $2,000
Sold 100 shares @ $50 $5,000 $5,000
Capital gain $3,000 $3,000
Capital gain  $450 (taxed @ 15%) $660 (taxed @22%)
Profit after tax $2,550 $2,340

This chart shows how a married couple earning $100,000 a year could avoid almost $300 in taxes by waiting at least a year before selling shares that had appreciated $3,000.

You'd forego $450 of your profits by opting for a long investment gain and being taxed at long-term capital gains rates. But had you held the stock for less than one year (and so incurred a short-term capital gain), your profit would have been taxed at your ordinary income tax rate. For our $100,000 a year couple, that would trigger a tax rate of 24%, the applicable rate for income over $84,200 in 2019. That adds an additional $270 to the capital-gains tax bill, for a total of $720.

While it's possible to make a higher return by cashing in your investments frequently and repeatedly shifting the funds to fresh new investment opportunities, that higher return may not compensate for higher short-term capital gains tax bills. To illustrate, consider the 30-year impact of investing $1,000 for a high-income-earning couple who'd pay the highest long-term capital gains rate of 20%.

In this scenario, the calculations compared investing in a long-run strategy with a series of short-term investments that were held for less than a year.

The long-run strategy would yield almost an additional $20,000 over 30 years compared with the short-term approach. That holds true despite the long-term investment earning 10% a year versus 12% for each of the short-term investments.

Making constant changes in investment holdings, resulting in high payments of capital gains tax and commissions, is called churning.

The Bottom Line

The tax on a long-term capital gain is almost always lower than if the same asset were sold in less than a year; most taxpayers don't have to pay the highest long-term rate. Tax policy encourages you to hold assets subject to capital gains for a year or more.