Capital Gains Tax: What it is, How it Works, and Current Rates

The information contained in this article is for general informational purposes only and should not be construed as tax, legal, or investment advice. Investors should seek independent advice from qualified tax or investment professionals regarding any matters involving tax or investment advice.

Selling an investment for a profit triggers capital gains tax – but what is capital gains tax and how does it work? Keep reading to learn the difference between short-term and long-term capital gains, 2025/2026 capital gains tax rates, exclusions, and how you can minimize capital gains taxes.

What is capital gains tax?

Capital gains tax (CGT) is the tax you pay when you sell an asset for a profit. This tax applies to investments like stocks or bonds, digital assets like cryptocurrency or an NFT, or physical items like real estate, jewelry, or collectibles.

CGT only applies when an asset is sold. This means you don’t have to pay any tax on investments that have increased in value if they haven’t been sold yet.

There are two types of capital gains:

• Short-term capital gains apply to assets held for a year or less. These are taxed at your regular income tax rate, which is usually higher.
• Long-term capital gains apply to assets held for more than a year. These are taxed at lower rates, depending on your income bracket.

CGT also only applies to the profit made when you sell an asset, not the total sale amount. If you sell an asset for the same price you bought it for, there’s no gain and therefore no tax owed.

What is a capital gain?

A capital gain is the profit made when you sell an asset for more than its purchase price. For example, if you buy a stock at $5,000 and later sell it for $10,000, the capital gain is $5,000. On the other hand, if you sell the stock for $3,000 then the result is a capital loss.

Capital gains and losses are typically calculated together. If total gains are higher than losses, the result is a net capital gain. If total losses exceed gains, the result is a net capital loss. For example, if you sold one investment for a $5,000 profit and another for a $2,000 loss, you’d have a net capital gain of $3,000.

Types of capital assets

Most assets fall under the category of ‘capital assets’, including:

• Investments like stocks, bonds, mutual funds, and cryptocurrencies
• Precious metals, such as gold and silver
• Property like land or real estate
• Personal items like cars, boats, furniture, and jewelry
• Collectibles like art, coins, or stamps.

To make it simple: if you own something for personal use or investment purposes, it’s probably considered a capital asset and may be subject to CGT when sold.

Note that certain types of business-related property don’t qualify as capital assets, including:

• Inventory mostly held for sale to customers
• Real estate used for business purposes
• Patents, inventions, secret formulas, and other forms of intangible business property
• Business supplies.

Realized vs unrealized gains

An unrealized gain (sometimes called a ‘paper gain’) is when an asset increases in value but hasn’t been sold. For example, if you hold gold bullion and the gold price increases, your gain exists on paper but no tax is due until you’ve sold your bullion.

A realized gain is when the asset is actually sold. This sale is the triggering event that creates a tax liability.

Cost basis calculation

The cost basis is the original purchase price of an asset, adjusted for fees and other factors. You’ll need to know this in order to calculate capital gains accurately.

The cost basis usually includes:

• Purchase price, or how much you paid to acquire the asset
• Transaction fees, like brokerage fees or commissions
• Adjustments and improvements, such as renovation costs on a property that increase its value.

The capital gain is then calculated as:

Sale Price - Cost Basis = Capital Gain (or Loss)

For example, if you bought an investment for $10,000 and paid $200 in fees, the total cost basis is $10,200. If you later sell that investment for $15,000, your capital gain would be $4,800. 

Short-term vs long-term capital gains

The amount of capital gains tax you owe depends on how long you held the asset for before selling it. 

Holding period rules

The length of time you hold an asset is known as the holding period. It begins the day after the asset is acquired and ends the day the asset is sold or disposed of.

If the holding period is one year or less, any gain or loss is considered short-term. If it’s more than a year, it’s considered long-term. 

Short-term capital gains tax rates

Short-term capital gains are taxed the same way as ordinary income (like wages or pension payments). This means the rate you pay depends on your total taxable income and filing status.

These are the short-term capital gains tax rates for 2025 (filed in 2026):

Source: Internal Revenue Service, accessed March 19 2026

Long-term capital gains tax rates

Long-term capital gains are taxed at either a 0%, 15%, or 20% rate depending on:

• Total income for the year
• The asset’s cost basis (purchase price + adjustments)
• When the asset was purchased or sold.

Whichever rate you end up paying, it’ll likely be lower than the short-term CGT rate. This is one of the main incentives for long-term investing. You could have the same investment profit taxed at a much lower rate just because you held the asset for longer than a year.

These are the long-term capital gains tax rates for tax year beginning 2025:

Source: Internal Revenue Service, accessed March 19 2026

State capital gains tax

Depending on where you live, capital gains may also be taxed at the state level. There are nine states that don’t tax capital gains at all: Alaska, Florida, Missouri, Nevada, New Hampshire, South Dakota, Tennessee, Texas, and Wyoming (Kiplinger, 03.19.26)

For most other states, both short and long-term capital gains are taxed at the same rate as ordinary income. Some states, however, have special taxes or tax rates for capital gains, including Hawaii, Maryland, Massachusetts, Minnesota, and Montana (SmartAsset, 03.19.26)

Some states, like Arizona, Arkansas, New Mexico, North Dakota, South Carolina, Vermont, and Wisconsin, offer a partial tax deduction or exemption for capital gains. 

Because state rules vary widely, it’s important to check how much tax you owe depending on where you live.

Capital gains tax exceptions

Collectibles

Collectibles are taxed differently from most other capital assets. This category includes things like:

• Artwork, rugs, and antiques
• Jewelry and gems
• Precious metals like gold and silver
• Stamps and coins
• Certain alcoholic beverages.

If a collectible is sold after being held for more than a year, the gain is considered long-term, but it doesn’t qualify for the standard 0%, 15%, or 20% rates. Instead, long-term gains on collectibles are taxed at a maximum rate of 28% (IRS, 03.19.26)

If the collectible is held for one year or less, any profit is treated as a short-term capital gain and taxed at ordinary income tax rates.

Owner-occupied real estate

If you’re selling your primary residence, up to $250,000 of the capital gains from the sale are excluded from your taxable income if you’re a single filer (IRS, 03.19.26). This increases to up to $500,000 if you’re married filing jointly. Only gains above these thresholds are subject to capital gains tax.

To qualify for this exclusion, you must have owned and lived in the home for at least two of the last five years before the sale.

For example, if you’re a single homeowner making a $300,000 profit on a home sale, only $50,000 would be taxable after applying the $250,000 exclusion.

You can also reduce the taxable gain further by increasing the property’s cost basis. This would include making improvements like renovations, extensions, or system upgrades. Note that routine maintenance and minor repairs don’t generally count, however. 

Investment real estate

Real estate investors can often claim depreciation deductions to reflect wear and tear on the building. While this reduces taxable income during ownership, it can also increase the taxable gain when the property is sold.

This is because depreciation lowers the property’s cost basis. When the property is eventually sold, part of the gain might be taxed as a depreciation recapture, typically at a rate of up to 25%. The remaining gain is then taxed at standard long-term capital gains tax rates (0%, 15%, or 20%), depending on income.

Some investors use strategies like a 1031 exchange to defer capital gains tax. This involves reinvesting the proceeds from the sale into a similar investment property, allowing them to delay their tax liability (rather than eliminating it entirely).

Retirement accounts

Capital gains tax doesn’t generally apply to investments held within tax-advantaged retirement accounts, including 401(k)s and individual retirement accounts (IRAs).

In these accounts, capital gains are tax-deferred, which means there’s no tax owed when assets are bought and sold inside the account. However, you may have to pay taxes later when withdrawing funds.

How to reduce capital gains tax legally

Hold assets for longer than a year

One of the simplest ways to reduce capital gains tax is to hold investments for more than one year before selling. This allows you to qualify for long-term capital gains tax rates, which are often much lower than short-term rates.

Use tax-advantaged accounts

You can reduce or eliminate capital gains tax by holding your investments inside a tax-advantaged account. For example, in traditional retirement accounts, gains grow tax-deferred and are only taxed when funds are withdrawn. In Roth accounts, qualified withdrawals are generally tax-free.

This means you can buy and sell assets within the account without triggering capital gains tax each time.

Time asset sales carefully

Because capital gains tax rates depend on your total taxable income, the timing of a sale can make a difference. For example, if you were to sell assets during a lower-income year (like a career break or retirement), you may be eligible for a lower tax rate or even qualify for the 0% long-term capital gains bracket.

Take advantage of the home sale exclusion

If you’re selling a primary residence, you may be able to exclude a large portion of the gain from tax – up to $250,000 for single filers or up to $500,000 for married couples filing jointly. To qualify for this, you need to have lived in the property for at least two of the last five years before the sale. It may be worth waiting to meet these conditions to reduce or eliminate tax on the sale.

Offset gains with losses (tax-loss harvesting)

If some investments have decreased in value, you can sell these to create a capital loss that offsets the gains made from other investments. This strategy is known as tax-loss harvesting and it allows you to reduce your ordinary income by up to $3,000 annually (Investopedia, 03.19.26). You can also carry forward any unused losses to future tax years.

For example, if you had a gain of $5,000 and a loss of $10,000, there’d be no taxable gain. The remaining $5,000 loss can be used to offset up to $3,000 of ordinary income for the year, giving you $2,000 to carry forward to future years. 

If you intend to tax-loss harvest, it’s important to be aware of the wash-sale rule. If you repurchase a ‘substantially identical’ asset within 30 days before or after selling at a loss, you won’t be able to write off that loss. This rule exists to prevent people from selling at a loss then going back to buy that same asset again.

Increase your cost basis

You can also reduce your taxable gains by increasing and keeping track of investment-related costs. This includes transaction fees and commissions, capital improvements (for property), and other qualifying expenses tied to the investment. Remember, a higher cost basis reduces your overall profit, which in turn lowers the amount subject to CGT.

Use a 1031 exchange for real estate

If you sell an investment property, a Section 1031 or ‘like-kind’ exchange allows you to defer CGT by reinvesting the profits into a similar property. Instead of having to pay tax immediately, the gain would be rolled into the new investment. You’d only have to pay tax when you eventually sell the replacement property (unless you complete another 1031 exchange).

This information is for general purposes only and is not intended as tax advice. Please consult a qualified tax professional.