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Understanding this aspect of tax strategy is crucial for investors looking to optimize their financial outcomes. In essence, the IRS allows taxpayers to use capital losses to offset capital gains, which can potentially reduce the amount of tax owed. Short-term capital losses, which occur when you sell an asset at a loss within a year of purchase, can indeed offset long-term capital gains profits. By strategically applying these losses, investors can potentially lower their taxable income, making it an essential consideration for anyone involved in buying and selling assets.
A financial advisor can help you optimize your tax strategy or harvest investment losses in your portfolio.
What Are Capital Gains and Capital Losses?
A capital gain occurs when you sell an asset for more than its purchase price, reflecting a positive return on your investment. Conversely, a capital loss arises when the selling price is less than the purchase price, indicating a decrease in the value of your investment. These fluctuations can affect various types of assets, including stocks, bonds, real estate and collectibles like art or antiques.
The value of these assets can change due to many factors, such as market conditions and economic indicators. For example, an increase in demand for real estate can lead to capital gains for property owners, whereas a downturn in the stock market can result in capital losses for stockholders.
As another example, if an investor buys shares in a technology firm and then sells them at a higher price after a successful product launch. This investor realizes a capital gain. Conversely, if the investor sells their shares after a decline in the company’s profitability, the investor suffers a capital loss.
Short-Term vs. Long-Term
Capital gains and losses are classified as either short-term or long-term. The IRS taxes short-term capital gains and losses – which come from assets held for one year or less – at higher rates, the same as ordinary income tax rates. These tax rates can be as high as 37% depending on the taxpayer’s income bracket. 1
In contrast, long-term capital gains and losses – which come from the sale of assets held for more than one year – benefit from lower tax rates, currently capped at 20%. This tax structure incentivizes investors to engage in longer-term investments, promoting financial stability and growth.
Capital Gains Tax Rates
The distinction between short- and long-term capital gains determines how the IRS taxes your investment profits. Short-term capital gains typically include profits from the sale of stocks, bonds or commodities held for a short duration. Long-term capital gains, on the other hand, may arise from the sale of real estate or long-held stock investments.
In 2026, the IRS taxes short-term capital gains as ordinary income, with rates that range from 10% to 37%, depending on the taxpayer’s income bracket.
2026 Short-Term Capital Gains Tax Rates
| Rate | Single | Married Filing Jointly | Married Filing Separately | Head of Household |
|---|---|---|---|---|
| 10% | $0 – $12,400 | $0 – $24,800 | $0 – $12,400 | $0 – $17,700 |
| 12% | $12,401 – $50,400 | $24,801 – $100,800 | $12,401 – $50,400 | $17,701 – $67,450 |
| 22% | $50,401 – $105,700 | $100,801 – $211,400 | $50,401 – $105,700 | $67,451 – $105,700 |
| 24% | $105,701 – $201,775 | $211,401 – $403,550 | $105,701 – $201,775 | $105,701 – $201,775 |
| 32% | $201,776 – $256,225 | $403,551 – $512,450 | $201,776 – $256,225 | $201,776 – $256,200 |
| 35% | $256,226 – $640,600 | $512,451 – $768,700 | $256,226 – $384,350 | $256,201 – $640,600 |
| 37% | $640,601+ | $768,701+ | $384,351+ | $640,601+ |
However, the IRS taxes long-term capital gains at 0%, 15% or 20%, based on the taxpayer’s income level 2 :
2026 Long-Term Capital Gains Tax Rates
| Tax Rate | Individuals | Married Filing Jointly | Head of Household | Married Filing Separately |
|---|---|---|---|---|
| 0% | $0 – $49,450 | $0 – $98,900 | $0 – $66,200 | $0 – $49,450 |
| 15% | $49,451 – $545,500 | $98,901 – $613,700 | $66,201 – $579,600 | $49,451 – $306,850 |
| 20% | $545,501+ | $613,701+ | $579,601+ | $306,851+ |
How Capital Losses Can Offset Gains
Investing in the stock market inherently involves both potential gains and the risk of losses. However, you can strategically manage some of your losses through tax-loss harvesting. This method involves the deliberate selling of securities at a loss to offset a corresponding gain, which can help reduce the overall tax liability.
Short-term losses are first used to offset short-term gains. If short-term losses exceed the gains, the remaining loss can apply against long-term gains. Conversely, long-term losses are first applied against long-term gains.
Notably, if an investor’s total realized losses exceed their total gains, the IRS allows up to $3,000 of this excess loss to be deducted against other types of income annually, with the possibility of carrying forward unused losses into future tax years. The annual deduction is limited to $1,500 for married taxpayers filing separately. Capital losses that exceed the applicable annual limit can generally be carried forward to later tax years.
Want a clearer picture of your taxes before you submit your return? Try our income tax calculator to get an estimate.
Example of Tax-Loss Harvesting
Let’s take the example of an investor who has the following losses and gains within the same fiscal year:
- $5,000 short-term loss
- $2,000 short-term gain
- $7,000 long-term gain
Our hypothetical investor chose to sell a short-term investment at a $5,000 loss to reduce net gains of $9,000 ($2,000 on another short-term investment and $7,000 on an investment that they held for six years before selling).
First, the $5,000 short-term loss will offset the entirety of his $2,000 short-term gain. For tax purposes, he has $3,000 in remaining short-term losses that he can apply against his $7,000 long-term gain. As a result, he’ll pay long-term capital gains tax rates on just $4,000.
It’s important to note that while tax-loss harvesting can be a beneficial strategy, its effectiveness depends on individual circumstances and market conditions. Additionally, there are rules and limitations, such as the wash-sale rule, which prevents investors from claiming a tax deduction for a security sold at a loss and repurchased within 30 days.
How Capital Loss Carryovers Affect Future Gains
Capital losses that remain after the annual tax calculation can continue into later tax years. Their short-term or long-term classification carries over with them, so prior-year losses become part of the following year’s capital gain and loss calculation rather than being converted into a different type of loss.
Suppose an investor begins 2026 with an $8,500 short-term loss carryover. During 2026, the investor realizes a $3,500 short-term gain and a $9,000 long-term gain. After the short-term gain is accounted for, $5,000 of the carried-forward loss remains. That amount can reduce the long-term gain from $9,000 to $4,000. With no other capital transactions, the investor would report a $4,000 net long-term capital gain.
This means a loss generated in an earlier year may affect the tax cost of selling an appreciated investment years later. Before realizing a sizable gain, investors can review Schedule D and prior-year tax records to see whether unused capital losses are available and how those losses could affect the current year’s net capital gain.
Bottom Line
Tax-loss harvesting uses investment losses to offset gains realized in the same year. Short-term losses must first be applied to short-term gains, with any remaining amount used to offset long-term gains. If total losses exceed total gains, the IRS allows investors to deduct up to $3,000 from other income, or $1,500 for married taxpayers filing separately. Excess capital losses can generally be carried forward to future tax years.
Portfolio Tax Tips
- If tax efficiency is a financial priority, consider working with a financial advisor who can help in that area. Finding a financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with vetted financial advisors who serve your area, and you can have a free introductory call with your advisor matches to decide which one you feel is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
- Planning for a tax bill related to the sale of an investment can help make filing your taxes a little less painful. After all, it’s better to go into tax season with a sense of how much you’ll owe from when you sold that stock or ETF the previous year. Whether you have short- or long-term capital gains, SmartAsset’s capital gains tax calculator can help you estimate how much you may end up owing.
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Article Sources
All articles are reviewed and updated by SmartAsset’s fact-checkers for accuracy. Visit our Editorial Policy for more details on our overall journalistic standards.
- “Federal Income Tax Rates and Brackets | Internal Revenue Service.” Home, https://www.irs.gov/filing/federal-income-tax-rates-and-brackets. Accessed 24 Sept. 2026.
- “Topic No. 409, Capital Gains and Losses | Internal Revenue Service.” Home, https://www.irs.gov/taxtopics/tc409. Accessed 24 Sept. 2026.