How to Reduce Capital Gains Tax: 11 Strategies to Consider
Managing capital gains tax liability can significantly reduce your tax burden. Here are some ways to get started.
Many, or all, of the products featured on this page are from our advertising partners who compensate us when you take certain actions on our website or click to take an action on their website. However, this does not influence our evaluations. Our opinions are our own. Here is a list of our partners and here's how we make money.
The investing information provided on this page is for educational purposes only. NerdWallet, Inc. does not offer advisory or brokerage services, nor does it recommend or advise investors to buy or sell particular stocks, securities or other investments.
Being proactive about managing your investments can help reduce your capital gains tax bill, which lets you invest and grow more of your money.
1. If you’re going to buy and sell often, try to do it in a tax-advantaged account
When you sell stocks or other investments, the profits can be subject to capital gains tax in the year you sell, unless the investments were in an account that isn’t subject to the regular capital gains tax rules. IRAs, 401(k)s, 529s, HSAs and irrevocable trusts are examples of accounts that provide these tax benefits.
Deciding whether to use an active or passive investing strategy is a key part of investing. To reduce capital gains tax, it can be useful to use tax-advantaged accounts for actively traded positions or less tax-efficient investments and to use taxable brokerage accounts for buy-and-hold investments or more tax-efficient investments.
NerdWallet Wealth Partners can create a personalized plan that evolves with you, from this tax season to the next chapter. Start by answering a few questions.
on NerdWallet Wealth Partners' site. For informational purposes only. NerdWallet Wealth Partners does not provide tax or legal advice.
2. Hold investments for at least a year, if it makes sense
If you need to sell an investment, first calculate how long you’ve owned the investment. Capital gains tax rates are generally lower if the seller has owned the investment for more than a year. If the delay makes sense for your portfolio and your cash needs, waiting to sell can reduce capital gains tax.
3. Harvest tax losses
If you’ve sold some investments that have generated taxable capital gains during the year, see if any of your other investment positions are underwater. Selling some of those underwater investments at a loss, assuming you’re willing to part with the investments, could help offset your capital gains, which could lower your tax bill.
This strategy, called tax-loss harvesting, allows investors to offset up to $3,000 of ordinary income per year. However, beware of the wash sale rule and know how to calculate your cost basis so you can stay within the rules.
You might be able to apply this year's leftover capital losses to future tax years, meaning you may be able to use them to reduce future capital gains tax bills. See a financial advisor to ensure you're following the rules.
4. Capitalize on lower-income years
Another way to reduce capital gains tax is to wait until you’re in a lower tax bracket before selling investments that generate big taxable gains.
For example, if you were unemployed for part of the year, or you took a pay cut, retired or just took some time off and thus made less money this year compared to last year, you might be in a lower tax bracket this year. And because short-term capital gains tax rates are the same as the ordinary income tax rates, the profits on investments you sell during the year could be subject to a lower capital gains tax rate this year than they would have been last year when you were in a higher tax bracket.
» Need help? See our picks for the year's best wealth advisors
5. Sell part of the investment rather than the whole thing
To reduce your capital gains tax bill this year, consider unwinding your position over the course of several years, which stretches out the tax consequences.
For instance, liquidating one-third of a position at the very end of 2026, one-third during 2027, and one-third in the very beginning of 2028 would take just over a year to accomplish but would allow you to distribute the capital gains taxes across three tax years. However, it’s important to consider this strategy only if it makes sense for your portfolio and other financial goals.
6. Sell in advance of anticipated tax rate increases
If you believe capital gains tax rates will increase in a future year, selling now might make sense if you’d like to avoid the higher tax rate later.
As with all tax strategies, be careful of IRS rules. Selling assets could trigger the 3.8% net investment income tax, alternative minimum tax or other headaches depending upon your financial situation. Be sure to consult a qualified financial advisor to ensure this or any other tax strategy will work for your specific situation.
7. Monitor mutual fund distributions
If you’re a mutual fund investor, you could be subject to capital gains taxes at the end of each year. Mutual funds typically generate capital gains and income distributions throughout the year as they trade in and out of investment positions.
Some years, a mutual fund may generate a lot of capital losses and net them against its realized capital gains (or carry over a lot of losses from prior years). This can reduce your capital gains tax bill.
In other years, a mutual fund may generate a lot of capital gains. It will pass these gains through to shareholders, which can increase the shareholders’ capital gains tax. This can be more common when markets continually hit new highs over a prolonged period.
Toward the end of the year, mutual fund companies typically provide investors with estimates of their capital gains distributions.
8. Donate appreciated assets
Donating highly appreciated securities to charity or bequeathing them to heirs when you die can lessen your estate's capital gains tax liability. This tax relief can be an additional perk on top of the tax deduction for charitable contributions.
If you leave your appreciated securities to heirs, typically they receive a step-up in cost basis upon your death. This means that in the eyes of the IRS, the purchase price of the security becomes the value of the security on the day you died rather than what you originally paid for it.
For example, if you bought 1,000 shares of stock for $1 per share in 1990 and the stock price is $100 per share on the day you die, the person who inherits your stock only pays capital gains tax on any profit above $100 per share. This step-up can dramatically reduce capital gains tax.
9. Invest in distressed communities
A qualified opportunity fund (QOF) is an investment fund that pools money from investors and uses it to invest in businesses or properties in low-income or economically distressed areas. Investors in QOFs get preferential capital gains tax treatment.
Specifically, people who have sold investments at a profit may be able to defer or reduce the capital gains tax on those profits if they reinvest the profits in a qualified opportunity fund. The longer you hold your QOF investment, the greater your overall tax benefit.
If you keep your QOF investment for more than five years, you get to increase the cost basis on your original capital gain by 10%, which effectively excludes you from having to pay capital gains tax on 10% of your original capital gain.
If you've invested in a qualified rural opportunity fund, the benefit is bigger; your cost basis increases by 30% instead of 10%.
If you hold your QOF investment beyond 10 years, you'll owe no capital gains on any additional appreciation beyond what you paid.
» ALSO: Learn how 1031 exchanges work
10. Consider securities-based lending
If you want to sell an investment, but the amount of capital gains tax that the sale would generate is making you cringe, one option to consider is to get a loan instead and use the investment as collateral.
Many brokerage firms allow investors with taxable brokerage accounts to use their securities as collateral backing a line of credit. Having a line of credit means you can access cash at any time.
There are caveats: If the value of your investment drops, the brokerage firm therefore has less collateral against your loan and will usually issue a margin call. This is a request for additional assets to replenish the account, which can be a strain. Also, you can’t use securities-based lines of credit to buy other securities or repay margin loans.
» MORE: How taxes on stocks work
11. Hire an advisor
Understanding the various ways to curtail capital gains taxes can be beneficial for any investor, particularly those in higher tax brackets. However, it's critical to know the many rules and details associated with these strategies. Hiring a seasoned financial advisor can help you navigate these waters, particularly if they are or can work hand in hand with a tax advisor so that you can create an optimal tax-minimization strategy for your situation.
ON THIS PAGE
ON THIS PAGE