Capital Gain State Tax: How Does It Work?

When you sell an asset like stocks or real estate for more than you paid, the profit is a capital gain. This gain is taxable income at the federal and, in many cases, the state level. The tax treatment depends on how long you owned the asset.

An asset held for one year or less results in a short-term capital gain, which is taxed at the same rates as your regular income. If you hold an asset for more than one year, it qualifies as a long-term capital gain and is subject to lower federal tax rates. For 2025, the federal long-term rates are 0%, 15%, or 20%, depending on your total taxable income and filing status. Each state has its own rules for taxing these gains, which adds another layer of complexity.

State Taxation Approaches for Capital Gains

The way states tax capital gains varies widely and can be grouped into three categories: states that impose no tax, states that tax them as ordinary income, and states that offer preferential treatment. This diversity means the financial outcome of selling an asset can differ significantly depending on where you live.

States with No Capital Gains Tax

Several states do not levy any tax on personal income, which includes capital gains. In these locations, a resident selling an asset will only be subject to federal capital gains tax. This can result in substantial savings for individuals with large gains.

These states include:

• Alaska
• Florida
• Nevada
• New Hampshire
• South Dakota
• Tennessee
• Texas
• Wyoming

Washington is a unique case; while it lacks a personal income tax, it levies a 7% excise tax on the sale of long-term capital assets like stocks and bonds for gains above a certain annual exclusion. This tax has specific exemptions for real estate, certain retirement accounts, and timber.

States Taxing Capital Gains as Ordinary Income

The most common approach is to tax capital gains at the same rate as regular income. In these states, there is no distinction between profit from selling a stock and salary from a job. The entire capital gain is added to your other income, and the total is taxed according to the state’s income tax brackets.

States following this model include California, Minnesota, and New York, which have some of the highest top marginal income tax rates. A large, one-time capital gain can push a taxpayer into a much higher state tax bracket for that year. For example, selling a long-held investment could elevate your total income into a higher bracket, causing a large portion of the gain to be taxed at that increased rate.

States with Preferential Treatment

A third group of states offers some form of tax preference for capital gains. These preferences make their systems more favorable than those that tax gains as ordinary income but less generous than states with no income tax. Nine states—Arizona, Arkansas, Hawaii, Montana, New Mexico, North Dakota, South Carolina, Vermont, and Wisconsin—provide a broad-based tax break for long-term capital gains.

The most common method is allowing taxpayers to deduct a percentage of their long-term capital gains from their state taxable income. For instance, South Carolina allows a deduction of 44% of net long-term capital gains, while Wisconsin offers a 30% deduction. A few states, like Colorado, offer tax breaks targeted at gains from investments in certain in-state businesses to encourage local economic development.

Determining Which State Can Tax Your Gain

Before you can calculate the tax, you must determine which state has the legal authority to tax the income. The rules are based on legal concepts of residency and the physical location of the asset being sold.

Gains for Residents

The state where you are legally domiciled has the right to tax all of your income, regardless of where it was earned. Your domicile is your true, fixed, permanent home. If you are a resident of a state with an income tax, that state can tax the profit from the sale of intangible assets like stocks and bonds.

If you move from one state to another during the tax year, you may need to file part-year resident tax returns in both states. Each state has its own rules for how to allocate income. Any capital gains realized while you were a resident of a particular state are taxable by that state.

Gains for Non-Residents

States can tax income generated from sources within their borders, even if the person earning it is not a resident. This is known as “source income.” The most common example involves the sale of real estate. If you are a resident of a no-tax state and sell a rental property located in California, you will owe capital gains tax to California on the profit.

This principle also extends to tangible personal property, such as equipment, that has a physical location in a non-resident state. However, this sourcing rule does not apply to intangible property like stocks and bonds. The gain from selling intangible assets is taxed only by your state of domicile.

Calculating Your State Capital Gains Tax

Once you determine which state can tax your gain, the next step is to calculate the tax owed. This process begins with figures from your federal tax return but requires attention to state-specific rules.

Start with Federal AGI

For most states with an income tax, the state tax calculation begins with your Federal Adjusted Gross Income (AGI) from Form 1040. This figure is the starting point because it already includes the net capital gains calculated on your federal return. This means the profit from your asset sale is automatically carried over to your state return, simplifying the process.

State-Specific Adjustments

After establishing the Federal AGI as the baseline, you must make any required state-specific adjustments. For capital gains, this is where any preferential treatment is applied.

If you live in a state that allows you to deduct a percentage of your long-term capital gains, you would subtract that amount from your Federal AGI on your state return. For example, a taxpayer with a Federal AGI of $150,000, including a $40,000 long-term capital gain, in a state with a 30% capital gains deduction would subtract $12,000 ($40,000 x 30%). This reduces their state taxable income to $138,000 before other state deductions are considered.

Reporting and Paying State Capital Gains Tax

After calculating your state capital gains tax, you must report the gain and pay the tax. Failing to follow the correct steps can lead to penalties and interest.

Identifying Forms

You do not report capital gains on a separate state form. The gain is included as part of your main state income tax return, which is the equivalent of the federal Form 1040. The capital gain, having been factored into your Federal AGI, flows directly into the income section of this state form.

If your state offers a specific deduction or credit for capital gains, there will likely be a separate state schedule or worksheet to calculate that benefit. The result from that worksheet is then entered on the main state tax return. For non-residents selling property, states often have a specific form to report the gain from that transaction.

Estimated Tax Payments

A significant capital gain can result in a large, one-time increase in your tax liability. To avoid an underpayment penalty, you are required to make estimated tax payments to the state. These payments are typically made quarterly, with due dates around April 15, June 15, September 15, and January 15 of the following year.

Most states require estimated payments if you expect to owe more than a certain threshold, often $300 to $1,000, after accounting for withholding. You can calculate these payments based on the tax owed for the current year or pay installments based on 100% of the prior year’s tax liability (or 110% for higher-income taxpayers) to meet a “safe harbor” and avoid penalties.

Submission Process

The final step is to file your completed state tax return and pay any remaining tax due by the filing deadline, which is typically the same as the federal deadline in April. Most state revenue departments offer multiple ways to file and pay. You can mail a paper return with a check and payment voucher or file electronically through the state’s online portal or with commercial tax software.