How to Reduce Capital Gains Tax: Legal Strategies

There are several legal ways to reduce or defer capital gains tax. The most common include holding investments for over a year to qualify for the lower long-term rates, using the $250,000/$500,000 home sale exclusion, harvesting tax losses, contributing to tax-advantaged retirement accounts, donating appreciated assets to charity, and using the 0% long-term capital gains bracket.

Strategy 1: Hold for more than one year

The single most impactful step most investors can take is simply waiting. Assets held for more than one year qualify for long-term capital gains rates (0%, 15%, or 20% in 2026). Assets held for one year or less are short-term gains, taxed at ordinary income rates that can reach 37%.

Key numbers (2026): The long-term rates are 0%, 15%, and 20%, compared to ordinary income rates of 10% to 37%. For a taxpayer in the 32% ordinary income bracket, converting a short-term gain to a long-term gain drops the rate to 15%, a 17-percentage-point reduction.

Source: Rev. Proc. 2025-32, section 4.03.

Strategy 2: Use the home sale exclusion

Under IRC section 121, single filers can exclude up to $250,000 of gain from the sale of a primary residence. Married filing jointly filers can exclude up to $500,000. To qualify:

• You must have owned the home for at least 2 of the last 5 years.
• You must have used it as your primary residence for at least 2 of the last 5 years.
• You cannot have used the exclusion for another home sale within the past 2 years.

Gains above the exclusion amount are taxable at capital gains rates. For example, a single filer who sells a home for a $350,000 gain can exclude $250,000 and owes capital gains tax only on the remaining $100,000.

For a full walkthrough, see Home Sale Exclusion: $250,000 and $500,000 Explained.

Strategy 3: Harvest tax losses

Tax-loss harvesting means strategically selling investments at a loss to offset taxable gains. The mechanics:

• Capital losses first offset capital gains of the same type (short-term vs. long-term). Excess short-term losses then offset long-term gains, and vice versa.
• If total losses exceed total gains, up to $3,000 of net capital loss can offset ordinary income per year.
• Losses not used in the current year carry forward indefinitely.

Who it works for: Anyone with a taxable brokerage account who holds positions that have declined in value. Tax-loss harvesting is most valuable when it offsets gains that would otherwise be taxed at 15% or 20%.

Watch out for the wash-sale rule: if you sell a security at a loss and buy the same or substantially identical security within 30 days before or after the sale, the loss is disallowed. See Tax-Loss Harvesting and the Wash-Sale Rule.

Strategy 4 - Use the 0% long-term capital gains bracket

In 2026, long-term capital gains are taxed at 0% if your taxable income falls within these thresholds (per Rev. Proc. 2025-32):

• Single: Taxable income up to $49,450
• Married filing jointly: Taxable income up to $98,900
• Married filing separately: Taxable income up to $49,450
• Head of household: Taxable income up to $66,200

Who it works for: Retirees living on savings, younger investors in low-income years, or anyone whose ordinary income leaves room below the 0% threshold. If your taxable income (including the capital gain) stays at or below the threshold, the long-term gain is literally tax-free.

Strategy: In years when your income is lower than usual (sabbatical, early retirement, between jobs), consider realizing appreciated positions while you are below the 0% threshold. This is sometimes called "gain harvesting."

Strategy 5: Donate appreciated assets to charity

If you donate appreciated stock (or other capital assets) directly to a qualified charity rather than selling the stock and donating the cash proceeds, you receive two tax benefits:

1. No capital gains tax: You do not recognize the gain when you transfer the stock to the charity.
2. Charitable deduction: You can deduct the fair market value of the stock (not just your cost basis) as a charitable contribution, subject to AGI percentage limits.

Example: You own stock worth $50,000 with a cost basis of $10,000. If you sell it, you owe capital gains tax on $40,000. If you donate the stock directly, you owe no capital gains tax and get a $50,000 charitable deduction.

Who it works for: Taxpayers who itemize deductions and who hold appreciated investments they were planning to sell. Donor-advised funds (DAFs) make it easy to donate appreciated stock and distribute grants to charities over time.

Strategy 6: Invest in Qualified Opportunity Zones

Qualified Opportunity Zones (QOZs) are designated low-income census tracts where investments receive special tax treatment under IRC section 1400Z-2. If you reinvest capital gains into a Qualified Opportunity Fund (QOF) within 180 days of the sale:

• Deferral: You defer recognition of the original gain until the earlier of the date you sell your QOF investment or December 31, 2026.
• Exclusion on new gains: If you hold the QOF investment for at least 10 years, gains on the QOF investment itself may be permanently excluded from income.

Who it works for: Investors with large capital gains who have a long investment horizon and can tolerate illiquidity. QOZ investments are not liquid. They work best for investors who realize a large gain (business sale, real estate sale) and want to defer the tax while pursuing a long-term investment.

Note: The deferral deadline for the original gain is December 31, 2026. After that date, any remaining deferred gain will be recognized regardless of whether the QOF investment is sold.

Strategy 7: Step-up in basis at death

Under current law, inherited assets receive a stepped-up cost basis equal to the fair market value on the date of the decedent's death (or an alternate valuation date). Any appreciation that occurred during the decedent's lifetime is permanently excluded from capital gains tax.

Example: A parent bought stock for $5,000 that is worth $200,000 at death. The heir inherits the stock with a $200,000 basis. If the heir sells immediately, there is no capital gain to report. The $195,000 of unrealized gain that built up over the parent's lifetime escapes tax entirely.

Who it works for: This is a planning tool for estate planning, not something you can control timing on. For highly appreciated assets that are not needed for liquidity, holding until death can eliminate decades of accumulated capital gains.

For more on how this works with inherited property, see Inherited Property and Step-Up in Basis.

Strategy 8 - Use an installment sale (IRC section 453)

An installment sale allows you to receive the sale proceeds over multiple years and report the capital gain as you receive each payment. This spreads the tax liability across several years instead of concentrating it in the year of sale.

Benefits of spreading gain recognition:

• Keeps annual income below higher capital gains rate thresholds (the 20% rate triggers at $545,500 for single filers in 2026).
• May keep MAGI below the NIIT threshold ($200,000 for single filers).
• Can preserve eligibility for income-tested benefits (ACA subsidies, Medicare premium brackets).

Who it works for: Sellers of real estate or a privately held business who can accept deferred payments from a creditworthy buyer. Installment sales introduce buyer default risk; if the buyer fails to pay, you may have already paid tax on income you never received.

Installment sales do not defer interest income (the buyer must pay market-rate interest on deferred payments, or the IRS will impute it). Depreciation recapture must be reported in the year of sale regardless of the payment schedule.