Short-Term Capital Gains Tax: What it is and Rates

One tax that can significantly affect your investment strategy is the short-term capital gains tax. Whether you're actively trading stocks, flipping real estate, or engaging in other investment activities, the timing of your transactions can have a major influence on your tax bill. Understanding what short-term capital gains tax is and how it works is key to making informed decisions to minimize your tax burden.

What Is Short-Term Capital Gains Tax?

Short-term capital gains tax is a tax applied to the profit earned from selling an asset, such as stocks, bonds, or real estate, that has been held for one year or less. Unlike long-term capital gains, which benefit from lower tax rates, short-term gains are taxed at your ordinary income tax rate, which ranges from 10% to 37%. This means that if you sell an asset within a short period of time after purchasing it, the profit you make will be subject to the same tax rates that apply to wages, salaries, and other forms of income, which are typically higher tax rates than those for long-term capital gains.

Short-Term vs. Long-Term Capital Gains Tax

Short-term and long-term capital gains are taxed differently depending on how long you hold an investment before selling it. Short-term capital gains tax applies to profits made from assets that you hold for one year or less. As mentioned above, these gains are taxed at your regular income tax rate, which can be higher.

On the other hand, long-term capital gains tax applies to assets held for more than one year. The government encourages longer-term investments by offering lower tax rates on long-term capital gains, which can help you keep more of your profit when you sell an asset after holding it for over a year.

How Does Short-Term Capital Gains Tax Work?

When you sell an asset for more than you paid for it, that profit is considered a capital gain. However, if you sell at a loss, you’ll realize a capital loss, which means you won’t owe any taxes on that transaction.

The IRS taxes net short-term capital gains, which is the difference between your total gains and any losses from selling other assets. If you actively trade in taxable accounts, such as stocks, cryptocurrencies, or ETFs, it’s important to be mindful of how these gains are taxed. A significant net short-term capital gain could push you into a higher income tax bracket, meaning you might owe more in taxes than you expected. Understanding how short-term capital gains tax works can help you plan your investments more effectively, minimize your tax liability, and avoid surprises at tax time.

How to Calculate Short-Term Capital Gains Tax

Short-term capital gains tax is calculated by finding the difference between the price at which you sold an asset and the original price you paid for it, also known as the cost basis. This difference represents your profit, which is subject to taxation. The tax is applied based on your income and filing status, meaning it's taxed according to your marginal tax rate. Since short-term capital gains are considered ordinary income, they are taxed at the same rates as wages or salary. The higher your income, the higher your tax rate may be on short-term gains.

If you’re trying to calculate the capital gains tax you owe on real property, consider using our capital gains tax calculator as a starting point.

What Is the Short-Term Capital Gains Tax Rate?

Understanding short-term capital gains tax rates is essential for effective tax planning and maximizing your investment returns. Here’s what you should know.

Short-Term Capital Gains Tax Rate for 2024

Short-Term Capital Gains Tax Rate for 2025

5 Ways to Minimize Short-Term Capital Gains Tax

Minimizing short-term capital gains tax requires careful planning and strategic decision-making. Here are several effective strategies that can help reduce the amount of taxes owed on investments held for less than a year.

1. Hold Assets for a Minimum of One Year

One of the simplest and most effective ways to reduce short-term capital gains tax is by holding investments for at least one year before selling. Short-term capital gains—profits from assets held for less than a year—are taxed at higher ordinary income rates. However, if you hold an investment for over a year, it qualifies for long-term capital gains treatment, which is taxed at a lower rate. Depending on your income level, the tax rate on long-term gains can be significantly lower than short-term rates.

2. Tax Loss Harvesting

Tax-loss harvesting is a strategy where you sell investments that have decreased in value in order to offset taxable gains from other investments. By selling losing assets, you can "harvest" the losses and use them to reduce your taxable income, effectively lowering your capital gains tax liability.

For example, if you have a short-term capital gain of $5,000 from one investment and a short-term capital loss of $2,000 from another, you can sell the losing investment to offset the gain. This reduces the taxable gain to $3,000, thus lowering the taxes owed. If your losses exceed your gains, you can use up to $3,000 of the excess loss to offset other types of income, such as wages.

You'll also want to be aware of the "wash sale rule," which prohibits you from claiming a tax deduction for a loss if you purchase the same or a similar asset within 30 days before or after selling it.

3. Invest in Tax-Advantaged Accounts

Investing through tax-advantaged accounts, such as Individual Retirement Accounts (IRAs), 401(k)s, or Health Savings Accounts (HSAs) can be a powerful way to minimize short-term capital gains taxes. In these accounts, investments grow tax-deferred, meaning you don't pay taxes on capital gains until you withdraw the funds, if at all. Contributions to traditional IRAs and 401(k)s may also be tax-deductible, lowering your taxable income for the year you contribute. If you're using a Roth IRA or Roth 401(k), your investments grow tax-free, and qualified withdrawals are also tax-free.

Keep in mind that each type of account has its own rules and restrictions, so it’s important to plan your contributions and withdrawals accordingly.

4. Utilize Alternative Investment Strategies

Some alternative investments may provide tax benefits that help minimize short-term capital gains taxes. For example, certain types of real estate investments, like those through Real Estate Investment Trusts (REITs), may offer tax advantages. Additionally, some tax-deferred investments, such as tax-sheltered annuities may allow for the deferral of taxes on capital gains. However, note that not all these real estate investments can be combined with a 1031 exchange.

In many cases, real estate investments are eligible for deductions and depreciation, which can offset taxable income, including capital gains. Tax-sheltered annuities allow investments to grow tax-deferred, and depending on the type of annuity, withdrawals may be taxed at a lower rate.

5. Maximize Retirement Plan Contributions

Contributing to retirement plans, such as a 401(k) or an IRA, can lower your taxable income, thus reducing the amount of taxes owed on short-term capital gains. Even though retirement plans don’t directly reduce short-term capital gains taxes, contributing the maximum allowable amount can reduce your overall tax liability.

By contributing to a 401(k), IRA, or another qualified retirement account, you reduce your taxable income for the year. While this doesn't immediately impact short-term capital gains, it lowers your overall income, which may reduce your tax bracket and the rate at which your short-term capital gains are taxed.

Know When Short-Term Capital Gains Tax Applies

Short-term capital gains tax applies to profits on assets held less than a year. Short-term capital gains are taxed at a higher rate than long-term capital gains, discouraging quick, speculative trading and rewarding investors who are willing to hold onto their investments for a longer period.

A 1031 exchange is a way to defer capital gains tax on the sale of an investment property when you reinvest the proceeds from the sale into a like-kind property. If you’re interested in learning more about this strategy, the experts at First American Exchange Company can help. Contact us today for more information.