Chapter 13: Tax-Smart Investing — Keep Your Returns

This post is Chapter 13 of 14 of the book Keep More of What You Earn — a plain-English guide to US taxes.

Two investors, same $50,000, same market, same decade. Chris trades actively in a taxable brokerage account — generating short-term gains taxed as ordinary income, never harvesting a loss. Pat buys a broad index fund in a Roth IRA and… does nothing. Ten years later, both show similar pre-tax growth. After tax, Pat is ahead by tens of thousands of dollars.

The difference: location (which account), timing (how long held), and harvesting (what to do with losses).

The capital-gains brackets: patience has a price list

Sell an investment held more than one year and the profit is a long-term capital gain, taxed at 0%, 15%, or 20%. For 2026, thresholds apply to taxable income (gains stack on top of other income): 0% up to $49,450 single / $98,900 MFJ / $66,200 HoH; 20% above $545,500 single / $613,700 MFJ.

Example: Dana, single, $40,000 taxable income + $20,000 long-term gain. Her 0% room: $49,450 − $40,000 = $9,450 at 0%; remaining $10,550 at 15% = $1,582.50. Total tax on a $20,000 gain: under 8% effective.

Short-term (held 11 months)? The whole $20,000 at her 22% marginal rate = $4,400. Same profit, 2.8× the tax — for selling one month earlier. The one-year line is the most valuable calendar date in investing.

The 0% bracket is a strategy: in low-income years, tax-gain harvesting — sell and immediately rebuy, resetting your cost basis higher, tax-free.

The surtaxes and special rates

• Net Investment Income Tax (NIIT): 3.8% when MAGI exceeds $200,000 (single/HoH), $250,000 (MFJ). Not indexed for inflation. Top-bracket real rate: 20% + 3.8% = 23.8%.
• Collectibles: 28% max. Art, coins, precious metals, many NFTs.
• Unrecaptured Section 1250 gain: 25% max. Depreciation recapture on real estate sales.

Qualified dividends get the 0%/15%/20% rates; nonqualified dividends (REITs, MLPs) are taxed as ordinary income.

Tax-loss harvesting: making losers pay

1. Losses offset gains dollar-for-dollar (short-term first).
2. Up to $3,000 of net loss per year offsets ordinary income ($1,500 MFS).
3. Excess carries forward indefinitely.

Example: $12,000 long-term gain − $5,000 loss = $7,000 taxable. Tax: $1,050 instead of $1,800 — $750 saved.

The wash-sale rule: rebuy the same or substantially identical security within 30 days before or after a loss sale, and the loss is disallowed for the current year. It applies across all your accounts — including your IRA.

Asset location: which account holds what

• Tax-deferred (traditional 401(k)/IRA): tax-inefficient assets — bonds, REITs, high-turnover funds.
• Tax-free (Roth): highest-growth assets — small-cap, emerging markets.
• Taxable brokerage: tax-efficient assets — broad-market index funds, municipal bonds, stocks held long-term.

Right locations can add 0.3–0.5% per year in after-tax return — compounding for decades.

Crypto taxes in plain English

• Every trade is taxable — crypto-to-crypto swaps, NFT purchases, spending Bitcoin on coffee. “I never cashed to dollars” is not a defense.
• Holding periods apply: >1 year = long-term rates.
• Staking rewards, mining, airdrops = ordinary income at fair market value when received.
• Like-kind exchanges don’t apply to crypto (real-estate-only since 2018).
• The wash-sale rule currently doesn’t apply to crypto — losses can be harvested and rebought immediately (verify current law).

Rental property: depreciation and the 1031

Depreciation: residential rentals depreciate over 27.5 years — a $275,000 building generates $10,000/year in paper deductions. Price: recapture (up to 25%) when you sell. Passive-loss limits apply ($100k–$150k phaseout for the $25,000 exception; real-estate-professional status is the full unlock).

1031 exchange: defer all gain by rolling into like-kind property — 45 days to identify, 180 to close. Professional territory, but one of the code’s most powerful wealth tools.

Equity compensation: RSUs, ESPPs, ISOs

• RSUs: taxed as ordinary wages when they vest. The #1 mistake: treating vest as “not yet income.”
• ESPPs: the discount (often 15%) is ordinary income; lookback provisions can make them nearly free money.
• ISOs: no regular tax at exercise, but AMT may apply (2026 exemptions: $90,100 single / $140,200 MFJ). Never exercise ISOs without modeling the AMT.

The muni bond decision: a formula

Taxable-equivalent yield = muni yield ÷ (1 − your marginal rate). A 3.5% muni at 24%: 3.5% ÷ 0.76 = 4.61% — beats a 4.2% taxable bond. At 12%: 3.98% — the taxable bond wins. Munis are a high-bracket instrument.

Key takeaways

1. Long-term gains get 0%/15%/20% rates — 0% up to $49,450 single / $98,900 MFJ (2026). Short-term gains are taxed like wages.
2. Harvest gains at 0% in low-income years; harvest losses with the $3,000 rule; mind the 30-day wash-sale window.
3. Asset location is free return: inefficient in deferred, high-growth in Roth, tax-efficient in taxable.
4. Watch the extras: 3.8% NIIT (unindexed), 28% collectibles, 25% recapture, nonqualified dividends as ordinary income.
5. Death steps up basis; gifts carry it over. Never buy a fund right before its December distribution.
6. Equity comp is taxed at vest/exercise, not at grant. Model the AMT before exercising ISOs.

Next: Chapter 14 — Year-End Moves and Recordkeeping.