Capital gains and losses
Also known as: capital gain, capital loss
A capital gain is the profit realized when an investment is sold for more than its cost basis, and a capital loss is the shortfall when it sells for less. Gains held longer than one year are taxed at lower long-term rates than short-term gains.
A capital gain or loss is the difference between an asset's sale proceeds and its cost basis — what you paid, adjusted for items such as commissions and reinvested distributions. Buying stock at $40 and selling at $55 produces a $15 per share capital gain; selling at $32 produces an $8 per share capital loss. Nothing is taxable until the position is actually sold, so an unrealized gain on a security you still hold creates no current tax.
Holding period determines the tax treatment. A position held for one year or less produces a short-term gain, taxed at the investor's ordinary income rate. A position held for more than one year produces a long-term gain, taxed at preferential long-term rates. Capital gains distributions from a mutual fund are an exception worth remembering: they are always treated as long-term regardless of how long the investor has owned the fund shares.
Losses are netted against gains — short-term against short-term and long-term against long-term first, then across the two categories. A remaining net capital loss can offset a limited amount of ordinary income each year, with any excess carried forward indefinitely to future tax years. The wash sale rule blocks the deduction if the investor buys a substantially identical security within 30 days before or after the sale.
Capital gains taxation is tested across the securities exams. The SIE covers types of income and the basic short- versus long-term distinction, the Series 6 focuses on how mutual fund distributions are taxed to shareholders, and the Series 66 applies the rules to equity positions and pooled investments in a planning context.
Key takeaways
- A capital gain or loss equals sale proceeds minus cost basis and is recognized only when the position is sold.
- Assets held one year or less generate short-term gains taxed as ordinary income; assets held more than one year get preferential long-term rates.
- Mutual fund capital gains distributions are always long-term to the shareholder, regardless of holding period.
- Losses offset gains, and excess net losses offset a limited amount of ordinary income per year with an indefinite carryforward.
- The wash sale rule disallows a loss if a substantially identical security is purchased within 30 days before or after the sale.