When you sell an investment, a home, or other property for more than you paid, the profit is a capital gain. The IRS wants a share, but how big that share is depends mostly on one thing: how long you owned it.
The basics: cost basis and gain
Your cost basis is generally what you paid, including commissions. Your gain is the sale price minus your basis. If you bought shares for $5,000 and sold them for $8,000, your capital gain is $3,000. You owe nothing until you sell — an increase in value you haven’t cashed in is an “unrealized” gain.
Short-term vs. long-term
- Short-term: held one year or less. Taxed as ordinary income at your regular bracket rate, which can be as high as 37%. (See how tax brackets work.)
- Long-term: held more than one year. Taxed at preferential rates of 0%, 15%, or 20%, depending on your taxable income and filing status.
Many middle-income households fall in the 15% long-term bracket, and lower-income filers may pay 0%. The income thresholds change each year; the IRS lists them in Topic 409.
The difference in practice
Someone in the 24% bracket who sells with a $10,000 gain after 11 months could owe about $2,400. Waiting a few more weeks to cross the one-year mark might drop that to $1,500 at the 15% rate. Same investment, same gain — $900 difference.
Other rules to know
- Net investment income tax: higher earners may owe an extra 3.8% on investment income above certain thresholds.
- Collectibles like art, coins, and precious metals have a maximum long-term rate of 28%. Curious about coin values? See what a bicentennial quarter is worth.
- Mutual fund distributions: funds can pass capital gains to you even if you didn’t sell anything. A related surprise is covered in our explainer on phantom tax.
- State taxes: most states tax capital gains as regular income.
Selling your home
If you’ve owned and lived in your main home for at least two of the past five years, you can generally exclude up to $250,000 of gain ($500,000 for married couples filing jointly). Keep records of improvements, since they add to your basis.
Legal ways to pay less
- Hold longer than a year whenever it makes sense.
- Use tax-advantaged accounts. Buying and selling inside a 401(k), IRA, or HSA doesn’t trigger capital gains tax. See brokerage vs. retirement accounts.
- Harvest losses. Sell losing investments to offset gains. Up to $3,000 of net losses a year can offset ordinary income, with the rest carried forward. Watch the wash-sale rule: buying the same or a substantially identical security within 30 days before or after disallows the loss.
- Time sales for low-income years, like early retirement or a sabbatical, when you might qualify for the 0% rate.
- Give appreciated assets to charity instead of cash, which can avoid the gain entirely if you itemize.
- Favor tax-efficient funds like broad index funds in taxable accounts.
Several of these fit naturally into year-end tax planning.
Bottom line
Hold investments longer than a year when you can, use retirement accounts for frequent trading, and use losses to offset gains. Small timing decisions can make a meaningful difference in what you keep.
General information only, not tax advice.
