Capital Gains Taxes: Understanding the Differences

Long-Term vs. Short-Term Gains

When it comes to capital gains taxes, the distinction between long-term and short-term gains is crucial. Long-term capital gains are taxed differently than short-term capital gains, with long-term gains typically receiving more favorable tax treatment.

Long-Term Capital Gains

Long-term capital gains are profits from the sale of assets held for more than one year. They are taxed at graduated income thresholds, ranging from 0% to 20%:

• 0% for individuals in the 10% or 12% income tax bracket
• 15% for individuals in the 25% or 35% income tax bracket
• 20% for individuals in the 37% or higher income tax bracket

Short-Term Capital Gains

Short-term capital gains are profits from the sale of assets held for one year or less. They are taxed at the same rate as ordinary income, which ranges from 10% to 37% for the 2022 and 2023 tax years.

Implications for Tax Brackets

While long-term capital gains cannot push individuals into a higher tax bracket, short-term capital gains can. This is because short-term capital gains are taxed at the same rate as ordinary income, which is subject to graduated income thresholds.

As an example, an individual in the 25% income tax bracket who sells an asset for a profit after holding it for one year or less will be taxed on that profit at a rate of 25%. However, if that same individual had held the asset for more than one year, they would be taxed on the profit at a rate of 15%.

Conclusion

Understanding the differences between long-term and short-term capital gains is essential for tax planning. Long-term capital gains typically receive more favorable tax treatment than short-term capital gains, and they cannot push individuals into a higher tax bracket.

Taxpayers should consider the length of time they hold their assets before selling them, as the tax consequences can vary significantly depending on whether the gains are short-term or long-term.