Understanding Capital Gains Tax in Texas

Capital gains taxes in Texas are taxes that you pay on the profit from the sale of an investment asset. These investments include everything from stocks and mutual funds to physical property including boats, vehicles, and real estate.

Whether or not you’ll be subject to capital gains taxes depends on a few key factors such as the state you live in, your filing status, the type of asset you’re selling, and how long you’ve owned that asset. Here’s what you need to know about Texas capital gains tax:

• Texas has no personal income tax or capital gains tax, which means that federal taxes are where the focus needs to be.
• Even if there are no capital gains taxes, dividend income may still be taxable so it is important to review the implications of passive income through investments with your CPA and financial advisor.
• There are several strategies available to minimize capital gains tax. This can include holding onto your assets for a longer period to make use of long-term rates, offsetting gains with losses, or investing in tax-advantaged accounts.

Understanding both federal and state laws can help you make more informed investment choices, potentially saving you from unexpected tax liabilities and working to maximize your profits.

How much is capital gains tax in Texas?

Texas is one of only eight states (the others are Alaska, Florida, New Hampshire, Nevada, South Dakota, Tennessee, and Wyoming) that do not impose any type of income tax and therefore do not impose a capital gain. 

Since the profits made on the sale of investable assets are considered income, you would not have to pay any capital gains tax in the state of Texas. 

However, you may still be subject to federal capital gains tax on the sale of capital assets, including the sale of land or property in Texas*, if your income exceeds the minimum threshold set by the IRS. This is determined by your filing status, with married couples filing jointly having a higher threshold compared to single filers.

*Learn more about Texas capital gains tax on real estate and how to avoid paying capital gains tax on property.

What are the federal capital gains tax rates?

Capital gains taxes are divided into two categories: short-term and long-term capital gains. The tax rate you pay depends on how long you’ve held the asset before selling it, with long-term gains being taxed at a lower rate, the cost of owning that asset (i.e. fees), your filing status, and your taxable income level.

Short-term capital gains

For short-term capital gains or the gains made on an asset that was held for one year or less, the tax rate as of 2023 ranges from 10% to 37%, depending on your income level. This means that if you sell an asset within one year of acquiring it, you’ll pay the regular tax rate for your income bracket.

Long-term capital gains

On the other hand, long-term capital gains made from the sale of assets held for more than one year are taxed at a 0% rate, 15% rate, or 20% rate. However, the actual tax rate you’ll pay depends on your income level and filing status, with those in higher income brackets paying the slightly higher rate of 20%.

The table below outlines the current federal capital gains tax rates for the 2024 filing year according to the IRS:

Filing Status	0% Rate	15% Rate	20% Rate
Single	Up to $47,025	$47,026 – $518,900	Over $518,900
Married filing jointly	Up to $94,050	$94,051 – $583,750	Over $583,750
Married filing separately	Up to $47,025	$47,026 – $291,850	Over $291,850
Head of household	Up to $63,000	$63,001 – $551,350	Over $551,350

Source: Internal Revenue Service

How to avoid capital gains tax in Texas

While Texas does not have a state capital gains tax, there are still ways to minimize or avoid federal capital gains tax. Some strategies include:

1. Holding on to the asset

Holding on to an asset for a longer period is an effective strategy to minimize or avoid federal capital gains tax. This approach is based on the different tax rates applied to short-term and long-term capital gains. If you sell an asset within a year of acquiring it, you will be subject to short-term capital gains tax, which follows regular income tax rates and can be as high as 37%. 

On the other hand, if you hold the asset for more than one year before selling, you qualify for long-term capital gains tax rates, which are significantly lower depending on your income level.

2. Primary residence exemption

For the sale of your home, the Primary Residence Exemption is a particularly beneficial tax strategy for homeowners. The United States tax code provides a significant break for those who sell their primary residence, potentially exempting a portion, or even all, of the profit from capital gains tax. Single homeowners can exclude up to $250,000 of the profit from the sale of their primary residence from capital gains tax, and this exclusion doubles to $500,000 for married couples filing jointly. 

To qualify for this exemption, you must have owned and used the home as your primary residence for at least two years during the five years ending on the date of the sale. This exemption can be used every two years, meaning you can continually invest in and upgrade homes while minimizing the impact of federal capital gains tax. 

3. Section 1031 exchange

Keep in mind that Texas capital gains tax on real estate does not exist, therefore there are no strategies to minimize it. However, a Section 1031 exchange, also known as a like-kind exchange or a Starker, is a tax strategy that can significantly minimize the impact of federal capital gains tax.

Per the Internal Revenue Code Section 1031, this strategy allows an investor to defer paying capital gains taxes on an investment property when it is sold, as long as another ‘like-kind property’ is purchased with the profit gained by the sale of the first property. Essentially, by reinvesting proceeds from the sale of an investment property into another property, capital gains taxes can be deferred.

This strategy is immensely important because it allows investors to leverage the full potential of their investment capital, by keeping their money working in another investment, rather than paying it out as taxes. It provides a powerful tool for real estate investors to grow their portfolios, enhance their investment returns, and build wealth over the long term. However, it’s important to note that some specific rules and timeframes must be adhered to to successfully execute a 1031 exchange, so consulting with a tax advisor or real estate attorney is highly recommended.

Continue reading: Is real estate still a good investment?

4. Income-based exemptions

Income-based exemptions can serve as a significant relief for taxpayers falling within certain income brackets and can be particularly useful for retirees or others with lower income levels, as they can strategically sell assets when their income is below these thresholds, thereby potentially eliminating their federal capital gains tax liability. 

However, this strategy isn’t only for those with lower income levels.  Those in higher income brackets can also take advantage of these exemptions by strategically timing their asset sales to fall within a lower-income year, such as when they retire or have less taxable income. It’s essential to carefully consider the timing of asset sales and consult with a tax advisor who can help you maximize this strategy.

5. Use tax-advantaged accounts

Another way to potentially minimize the impact of federal capital gains tax is by investing in tax-advantaged accounts such as health savings accounts (HSA), donor-advised funds (DAF), 529 college savings accounts, 401(k) plans, and Individual Retirement Accounts (IRAs). 

These accounts offer significant tax benefits, including potential exemptions from capital gains taxes on investments made within them. For example, traditional IRAs allow for tax-deferred growth, while Roth IRAs provide tax-free growth and withdrawals in retirement. Additionally, HSAs offer a triple-tax advantage, as contributions are tax-deductible, earnings grow tax-free, and withdrawals are also tax-free when used for qualifying medical expenses.

How to calculate your capital gains tax

While Texas does not have a state capital gains tax, you may still be subject to federal capital gains tax on your investments. To calculate this, you must determine the cost basis of your asset (the purchase price plus any related fees) and subtract it from the selling price. This will give you the total gain on your investment. You can then apply the appropriate short-term or long-term capital gains tax rate to calculate your tax liability.

A similar formula applies to the sale of most primary residences, alternative assets, and investments made within a tax-advantaged account, taking into consideration any applicable exemptions or exclusions discussed above. Although there are some instances where nuance may apply.

If you sell below your cost basis to incure a loss, the loss can potentially be written off or carried forward for future tax savings.

Calculating capital gains tax on inherited property 

Texas estate tax and capital gains tax, while separate entities, do intersect in certain scenarios, particularly when it comes to inherited assets. When someone inherits property, its cost basis is generally “stepped up” to the fair market value at the time of the owner’s death. This means that if the heir later sells the property, the capital gains tax applied will be based on the gain from the stepped-up value, not the original purchase price. This step-up in basis rule can significantly reduce the heir’s capital gains tax liability.

However, it’s important to note that estate tax applies to the fair market value of a deceased person’s estate at the time of death if it exceeds the exemption amount. So, while the step-up in basis rule can significantly reduce capital gains tax, it could potentially increase estate tax liability.

It’s advisable to consult with a tax advisor or estate planning attorney to understand how these taxes may affect your situation.

Capital gains tax on Texas property sales

Calculating capital gains tax on the sale of investment properties follows a similar process to other assets. You need to ascertain the cost basis of the property, which typically includes the purchase price and additional costs such as improvements made to the property, fees, and closing costs. Subtract the cost basis from the selling price of the property to determine your capital gain. 

Long-term or short-term capital gains tax rates are then applied based on how long you’ve held the property. If you’ve held the property for more than a year, the more favorable long-term capital gains tax rates apply. In contrast, if the property has been held for less than a year, the sale is subject to short-term capital gains tax rates, which align with ordinary income tax rates.

Keep in mind that there are opportunities to reduce or defer capital gains tax on investment properties, such as through a 1031 exchange. However, it’s crucial to consult with a tax advisor or real estate attorney to ensure compliance with all tax laws and maximize your investment strategy.

Put plans in place that aim to mitigate your federal capital gains tax burden with Avidian Wealth Solutions

As we’ve established, capital gains taxes in Texas do not exist but investors with realized gains on a sold asset will still be responsible for paying capital gains tax on a federal level. The key to mitigating these taxes is through careful planning and the tactical use of tax-advantaged accounts, exemptions, and strategies.

At Avidian Wealth Solutions, our team of financial advisors can work with you to develop a comprehensive plan that aims to minimize your capital gains tax burden while helping you achieve your investment goals. Our firm works out of a boutique family office-style environment that allows us to provide personalized attention to each of our clients and give consideration to your entire financial landscape.

Schedule a conversation with one of our tax advisors in Houston, Austin, Sugar Land, or The Woodlands today to see how we can help you achieve your financial goals while working to minimize your tax liability.

More Helpful Articles by Avidian: 

• What are the New FinCEN Requirements?
• The 529 Grandparent Loophole Explained
• How Does an Irrevocable Trust Protect Assets?
• What is the Difference Between Bear and Bull Markets?
• How to Find the Best Wealth Management Firms for High-Net-Worth Families

---

Please read important disclosures here