Capital gains tax is a tax on profit from selling an asset, and the rate depends on how long you held it and your income level

When you sell an asset for more than you paid for it, the profit is called a capital gain. The federal government taxes this profit, but the rate is not the same for everyone. Your tax rate depends on two things: whether you held the asset for more or less than one year, and your total income for the year. Long-term gains (held over one year) are taxed at lower rates than short-term gains (held one year or less). Short-term gains are taxed as ordinary income, which means they use the same tax brackets as wages and salary.

Most states also tax capital gains, though the rules vary by state. Some states treat capital gains like regular income; others have a separate capital gains tax. A few states do not tax capital gains at all. Your total tax bill includes both federal and state tax, so the rate you actually pay depends on where you live.

Key Takeaways

  • Long-term capital gains (assets held over one year) are taxed at 0%, 15%, or 20% depending on your income level, which is lower than the rate for short-term gains.
  • Short-term capital gains are taxed as ordinary income using your regular tax bracket, which can be as high as 37% at the federal level.
  • Your income level determines which capital gains rate you pay, not the size of the gain itself.
  • State capital gains taxes vary widely: some states do not tax them, others tax them as regular income, and a few have a separate capital gains tax.
  • You report capital gains on your tax return, and the IRS matches sales records from your broker to verify the amounts.

Long-term capital gains rates: 0%, 15%, or 20%

If you held an asset for more than one year before selling it, the profit is taxed as a long-term capital gain. The federal tax rate is 0%, 15%, or 20%, depending on your taxable income for the year. These rates are much lower than ordinary income tax rates, which is why holding assets longer is often better from a tax standpoint.

The income thresholds that determine which rate you pay change each year. For 2024, the 0% rate applies to single filers with taxable income up to roughly $47,000 and married filers filing jointly up to roughly $94,000. The 15% rate applies to income above those amounts up to a higher threshold (roughly $518,000 for single filers and $583,000 for married filers). Income above that threshold is taxed at 20%. These numbers shift annually based on inflation, so check the IRS website or your tax software for the current year's thresholds.

The 0% rate does not mean you pay nothing—it means you owe zero federal tax on that portion of your gain. This is valuable for people in lower income brackets who want to sell appreciated assets without triggering a large tax bill.

Short-term capital gains: taxed as ordinary income

If you held an asset for one year or less before selling it, the profit is a short-term capital gain. These gains are taxed at your ordinary income tax rate, which ranges from 10% to 37% depending on your total income and filing status. Because short-term gains use your regular tax bracket, they can be taxed much more heavily than long-term gains.

Short-term gains are added to your other income (wages, salary, interest, dividends) to determine your tax bracket for the year. If you have a large short-term gain in a year when you also earned significant wages, you could end up in a much higher tax bracket than usual. For example, if you normally fall in the 22% bracket but sell a stock for a $50,000 short-term gain, that gain might push you into the 24% or 32% bracket, and the gain itself would be taxed at that higher rate.

How state taxes add to your federal rate

Federal capital gains tax is only part of what you owe. Most states also tax capital gains, though the approach varies. Some states, like California and New York, treat capital gains as ordinary income and tax them at the same rate as wages. Other states, like Washington and Tennessee, do not tax capital gains at all. A handful of states, including Vermont and Minnesota, have a separate capital gains tax that applies only to investment income.

If you live in a state that taxes capital gains as ordinary income, your state rate could add 5% to 13% to your federal bill, depending on the state and your income level. If you live in a state with no capital gains tax, you pay only federal tax. The state where you live when you sell the asset is what matters, not where the asset is located or where the company is based.

How the holding period is calculated

The difference between long-term and short-term hinges on how long you owned the asset. The holding period starts the day after you buy it and ends the day you sell it. If you buy a stock on January 15 and sell it on January 15 of the next year, you have held it for exactly one year, which qualifies as long-term. If you sell it on January 14 of the next year, it is short-term.

The holding period applies to each asset separately. You might own one stock long-term and another short-term at the same time. When you sell, you report each sale separately and calculate the gain or loss for each one. If you sell multiple shares of the same stock at different times, you can choose which shares you are selling (called specific identification) to control whether the gain is long-term or short-term, though you must tell your broker which shares you want to sell.

What counts as a capital asset

Capital gains tax applies to most investments: stocks, bonds, mutual funds, real estate, cryptocurrency, and collectibles. It also applies to business assets you sell, such as equipment or property. However, some assets are treated differently. Inventory you sell as part of a business is not a capital asset—it is ordinary business income. Your primary residence gets special treatment: you can exclude up to $250,000 of gain if you are single or $500,000 if you are married filing jointly, as long as you owned and lived in the home for at least two of the last five years.

Losses work the opposite way. If you sell an asset for less than you paid for it, you have a capital loss. You can use capital losses to offset capital gains, which reduces your tax bill. If your losses exceed your gains, you can deduct up to $3,000 of the excess loss against ordinary income in a single year. Any remaining loss carries forward to future years.

How to report capital gains on your tax return

You report capital gains on Schedule D (Form 1040), which is part of your federal tax return. You list each sale separately: the asset, the date you bought it, the date you sold it, your cost basis (what you paid), the sale price, and the gain or loss. Your broker sends you a Form 1099-B that lists all your sales for the year, and the IRS receives a copy too. If the numbers on your return do not match the 1099-B, the IRS will flag it.

Cost basis is what you paid for the asset, including any fees or commissions. If you inherited the asset, your cost basis is usually the value on the date of death, not what the original owner paid. This is called a step-up in basis and can significantly reduce or eliminate the tax on inherited assets. Keep records of your purchases and sales for at least three years, though the IRS can go back longer if it suspects underreporting.

Frequently Asked Questions

Do I have to pay capital gains tax if I reinvest the money?

Yes. The tax is based on the profit, not on what you do with the money afterward. Whether you spend it, reinvest it, or leave it in cash, you owe tax on the gain in the year you sell. Reinvesting does not defer or eliminate the tax.

What if I have a capital loss larger than my gains?

You can deduct up to $3,000 of net capital loss against your ordinary income in one year. Any loss beyond that amount carries forward to future years, where you can use it to offset future gains or deduct another $3,000 against ordinary income. This process continues until the loss is used up.

How do inherited assets affect capital gains tax?

When you inherit an asset, your cost basis is reset to its value on the date of death, not what the original owner paid. This means if you sell the inherited asset shortly after inheriting it, you owe little or no tax on the gain that occurred before the death. This benefit is called a step-up in basis.

Can I avoid capital gains tax by holding an asset forever?

You avoid tax only as long as you do not sell. The moment you sell, you owe tax on the gain. If you hold until death, your heirs get the step-up in basis and can sell without owing tax on the gain that occurred during your lifetime.

Are dividends taxed the same way as capital gains?

may have access to dividends are taxed at the same long-term capital gains rates (0%, 15%, or 20%), but ordinary dividends are taxed as regular income. Nonqualified dividends are usually paid by money market funds or bonds. Your broker tells you which type you received on your 1099-DIV form.