Long-term capital gains are derived from investments held for more than one year and are taxed according to graduated thresholds for taxable income at 0%, 15%, or 20%. A short-term capital gain results from an asset owned for a year or less and is taxed as though it were ordinary income.

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. Here's why: As income, short-term gains get hit with one of seven tax rates that correspond to the seven tax brackets. Five of those rates exceed the highest possible rate (of 20%) you'll pay on a long-term capital gain. And only taxpayers with a taxable income that's upwards of $434,550 (single, or married and filing jointly) are subject to that highest long-term rate.

In other words, tax policy encourages you to hold assets subject to capital gains for a year or more. These taxable assets include stocks, bonds, precious metals, and real estate.

Key Takeaways

  • Short-term gains are taxed as regular income according to tax brackets up to 37% as of 2019
  • Long-term gains are subject to special, more favorable tax rates of 0%, 15%, and 20%, also based on income
  • One year of ownership is the deciding factor. Short-term gains result from selling property owned for one year or less

Long-Term Capital Gains Tax Rates

The tax treatment of long-term capital gains has changed in recent years. Prior to 2018, long-term capital gains rates aligned closely with income-tax brackets. Now, the Tax Cuts and Jobs Act has essentially created unique brackets for long-term capital-gains tax. Here they are:

Tax Rates for Long-Term Capital Gains
 

Filing Status

 

0% rate

 

15% rate

 

20% rate

 

Single

 

Up to $39,375

$39,376 to $434,550

Over $434,550

 

Head of household

Up to $52,750

 

$$52,751 to $461,700

Over $461,700

 

Married filing jointly 

Up to $78,750

$78,751 to $488,850

Over $488,850

 

Married filing separately

 

Up to $39,375

$39,376 to $244,425

Over $244,425

This chart shows the tax you'll pay on 2019 gains from assets held for more than year. The amounts are taxable income in all cases.

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, and then taxed accordingly. So if you have $80,000 in taxable income from salary, say, and $5,000 from short-term investments, your total taxable income would be $85,000.

Here's the tax you'll pay on short-term capital gains:

Tax Rates for Short-Term Capital Gains
 

Filing Status

 

10%

 

12%

 

22%

24% 32% 35% 37%
 

Single

 

$0 to $9,699

$9,700 to $39,375

$39,376 to $82,199

$82,200 to $160,724 $160,725 to $204,099 $204,100 to $510,299 $510,300 or more
 

Head of household

$0 to $13,849

 

$13,850 to $52,849

$52,850 to $84,199

$84,200 to $160,699 $160,700 to $204,099  $204,100 to $510,299 $510,300 or more
 

Married filing jointly 

$0 to $19,399

$19,400 to $78,949 

$78,950 to $168,399   

$168,400 to $321,449  $321,450 to $408,199  $408,200 to $612,349 $612,350 or more
This chart shows the tax you'll pay on gains from assets held for a year or less. These are the 2019 tax brackets for ordinary income.

Ordinary income is taxed at differing rates depending on your income bracket. It's possible, then, 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.

Let's use the case above as an example. Assuming you filed that income using the single status, you'd be in the 22% tax bracket with your regular earnings. (Actually, the progressive nature of the federal tax system means the first $9,700 you earn would be taxed at 10%, your income from $9,701 up to $39,475 would 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%. That's the rate for the next highest tax bracket.

Capital Gains Special Rates and Exceptions

Some assets receive different capital-gains treatment or have different timeframes 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, and other collectibles.

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 a home are 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 years or more. However, you don't get a break if you sell the home for less than you paid for it; capital losses from the sale of personal property, such as a home, are not deductible from gains.

Here's how it can work. 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, he must report a capital gain of $150,000, which 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. That can serve to reduce even more the amount of taxable capital gain. So $50,000 spent on a new kitchen could be added to the $300,000 original purchase price. That 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.

The first $250,000 in capital gains from the sale of you principal residence are exempt from taxation

Investment Real Estate

Investors who own real estate are often allowed to take depreciation deductions against income to reflect the steady deterioration of the property as it ages. (By the way, don't confuse this decline in the home's condition with a possible appreciation in the value of the entire property, driven by the real-estate market. They're separate figures.)

The deduction for depreciation essentially reduces the amount you're considered to have paid for the property in the first place. That in turn can increase 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 go on to 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 in the example above, if the person sold the building for $210,000, there would be total capital gains of $15,000. But $5,000 of thast 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.

Consider speaking with a tax professional about the 1031 exchange process if you own real estate as an investment and are contemplating a sale. A successful 1031 exchange may allow you to sell property and reinvest the proceeds into new real estate without paying capital gains or depreciation recapture taxes.

Investment Exceptions

High-income earners may be subject to another levy, the net investment income tax. This tax imposes an additional 3.8% of taxation on your investment income, including your capital gains if your modified adjusted gross income (not your taxable income) exceeds certain maximums. Those threshold amounts are $250,000 if married and filing jointly, or a surviving spouse; $200,000 if you’re single or a head of household; and $125,000 if married, filing separately. 

People with high adjusted gross incomes may be subject to an additional 3.8% tax on gains from their investments

The Advantages of Long-Term Over Short-Term Gains

It can be advantageous to keep investments for longer if they will be subject to capital gains once they'e realized. There are two reasons for this.

First, the tax bite will be lower for many or most people if they realize a capital gain in more than a year, rather than within months. Let's say 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 a married couple who 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%) $720 (taxed @24%)
Profit after tax $2,550 $2,280
This chart shows how a married couple earning $100,000 a year could avoid almost $300 in tax by waiting at least a year before selling shares that had appreciated by $3,000.

You'd forgo $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 bite of 24%, the applicable rate for income over $84,200. That adds an additional $270 to the capital-gains tax bill, for a total of $720.

Money you divert to taxes are funds for which you lose the opportunity to re-invest. Sure, as a savvy short-term investor, you might make a higher return by cashing in your investments frequently and repeatedly shifting the funds to fresh new opportunities. But that higher return may not compensate for higher short-term capital-gains tax bills.

To illustrate, we calculated the 30-year impacts of investing $1,000 sum for a high-rolling couple who'd pay the highest long-term capital gains rate of 20%. The calculations compared investing long-term versus in a series of short-term investments. We assumed that each short-term investment was held for a little more than a year to avoid the short-term tax bill that would kick in for an even-shorter investment. The long-run strategy would yield almost an additional $20,000 over 30 years compared with the "realize-and-reinvest" approach. That holds true despite the long-term investment earning 10% a year versus 12% for each of the short-term investments.

That gap exists in spite our long-term trader earning a lower rate of return (10%, compared with 12% for the short-term trader. The difference would be even more staggering had both investors been earning the same rate. In fact, with a 10% rate of return, the short-term investor would have earned only $80,000 after taxes.

Making constant changes in investment holdings, resulting in high payments of capital gains tax and commissions, is called churning. Unscrupulous portfolio managers and brokers have been accused of such practices to boost their commissions.

Gains are calculated on your basis in an asset—what you paid to acquire it, less depreciation, plus costs of sale and costs of any improvements you made. You inherit the donor's basis when an asset is given to you as a gift. The original basis transfers to you unless the asset is inherited. In this case, the basis is stepped up to its date-of-death value.