RiskPicksWhat is Capital Gains Tax?
Capital gains tax is the tax you owe on the profit from selling an investment for more than you paid for it. The rate you pay depends entirely on how long you held the investment before selling.
Short-Term Capital Gains
Profits from investments held for one year or less. These are taxed at your ordinary income tax rate, the same rate as your salary or wages.
- Day trades: always short-term (held minutes to hours)
- Swing trades: usually short-term (held days to weeks)
- Tax rates: 10% to 37% depending on your total income and tax bracket
- Most active traders pay short-term rates on all their profits
Long-Term Capital Gains
Profits from investments held for more than one year. These get preferential tax rates that are significantly lower than ordinary income rates.
- 0%: single filers with taxable income up to $48,350
- 15%: single filers with taxable income up to $533,400
- 20%: single filers with taxable income above $533,400
Capital Losses
- Offset gains: losses can be subtracted from gains. If you made $10,000 and lost $4,000, you pay tax on $6,000
- Deduct against income: if your losses exceed your gains, you can deduct up to $3,000 per year against ordinary income
- Carry forward: losses beyond $3,000 carry forward to future tax years indefinitely
- Wash sale rule: you cannot sell a stock at a loss and buy it back within 30 days to claim the loss. See Wash Sale Rule
Practical example for a day trader
You earn $75,000 salary and make $30,000 in day trading profits. Your total income is $105,000. The $30,000 in trading profits is taxed as short-term capital gains at your ordinary income rate (22-24% bracket for most of it). You owe roughly $6,600 to $7,200 in additional federal tax on those gains, plus state tax if applicable.
Many new traders do not set aside money for taxes on their trading gains. A good rule of thumb: reserve 25-30% of your net trading profits for taxes. Getting a surprise tax bill in April on profits you already spent is one of the most common and painful mistakes new traders make.