How to Avoid Capital Gains Tax in Texas

Capital gains are the profit from selling an asset that has increased in value. This profit is the difference between the asset’s purchase price (cost basis) and its selling price. Understanding how these gains are treated for tax purposes is an important aspect of personal finance, particularly for investors.

Capital Gains Taxation in Texas

Texas does not impose a state-level income tax on its residents, so there is no state capital gains tax. Any capital gains tax liability for Texas residents arises at the federal level. This absence of a state income tax distinguishes Texas from many other states that tax investment profits. Federal regulations concerning these gains remain applicable.

Understanding Federal Capital Gains Tax

At the federal level, capital gains are categorized and taxed based on how long an asset was held. A capital asset generally includes almost anything owned for personal or investment purposes, such as stocks, bonds, and real estate. However, certain items like inventory held for sale by a business or depreciable property used in a trade are excluded.

The distinction between short-term and long-term capital gains is important. Short-term capital gains originate from assets held for one year or less, and are typically taxed at ordinary income tax rates (10% to 37% for 2025). Long-term capital gains result from assets held for more than one year, and are generally taxed at more favorable rates: 0%, 15%, or 20%, depending on the taxpayer’s taxable income.

Some assets are subject to special federal capital gains tax rates. Net capital gains from selling collectibles, such as art or coins, are taxed at a maximum rate of 28%. A portion of the gain from the sale of depreciable real property (unrecaptured Section 1250 gain) may be taxed at a maximum rate of 25%. High-income taxpayers might also be subject to a 3.8% Net Investment Income Tax (NIIT), which applies to capital gains if their modified adjusted gross income exceeds certain thresholds.

Strategies for Reducing Federal Capital Gains Tax

Individuals can employ several strategies to potentially reduce or defer their federal capital gains tax liability. These methods leverage various provisions within the tax code to optimize investment outcomes.

Tax-Loss Harvesting

Tax-loss harvesting involves selling investments at a loss to offset capital gains. Realized losses can first offset capital gains. If capital losses exceed capital gains, up to $3,000 of the remaining loss can be used annually to reduce ordinary income, with excess losses carried forward. When re-investing after a loss, observe the wash-sale rule, which disallows a loss if a substantially identical security is purchased within 30 days before or after the sale.

Holding Period

The holding period of an asset directly influences its tax treatment. Holding an asset for more than one year ensures any realized gain qualifies for lower long-term capital gains tax rates, rather than being taxed as higher ordinary income. This difference can lead to substantial tax savings.

Gifting Appreciated Assets

Gifting appreciated assets to individuals in lower tax brackets can be an effective way to manage capital gains. The donor avoids capital gains tax, and the recipient receives the asset with the donor’s original cost basis. In 2025, individuals can gift up to $19,000 per recipient annually without triggering gift tax reporting requirements. Married couples can combine their exclusions to $38,000 per recipient.

Charitable Contributions

Making charitable contributions of appreciated assets offers a dual benefit. Donating assets like stocks or real estate directly to a qualified charity allows the donor to avoid capital gains tax on the appreciation. The donor can also claim an income tax deduction for the full fair market value of the donated asset, subject to adjusted gross income (AGI) limits. Donor-advised funds can facilitate this by allowing an immediate tax deduction upon contribution, with flexibility to recommend grants to charities over time.

Qualified Opportunity Funds (QOFs)

Qualified Opportunity Funds (QOFs) provide a mechanism to defer or reduce capital gains taxes by reinvesting gains into designated low-income communities. The Opportunity Zone program is now a permanent feature of the tax code. Investors can defer capital gains taxes on their initial investment for five years, with a 10% step-up in basis. For investments held for at least 10 years, any appreciation on the QOF investment can be permanently excluded from taxable income upon sale. Qualified Rural Opportunity Funds (QROFs) offer an enhanced 30% basis step-up after five years for investments in rural zones.

1031 Exchange

For real estate investors, a 1031 exchange (like-kind exchange) allows for the deferral of capital gains taxes when an investment property is sold and proceeds are reinvested in another “like-kind” property. This strategy applies exclusively to real property held for productive use in a trade, business, or for investment. To qualify, the replacement property must be identified within 45 days of selling the original property, and the entire exchange must be completed within 180 days.

Retirement Accounts

Utilizing retirement accounts offers significant tax advantages for capital gains. Investments in tax-advantaged accounts like traditional IRAs or 401(k)s grow tax-deferred, with capital gains taxed only upon withdrawal in retirement. Roth IRAs and Roth 401(k)s provide an even greater benefit: contributions are made with after-tax dollars, and qualified withdrawals in retirement, including all capital gains, are entirely tax-free. Gains from traditional accounts are typically taxed as ordinary income upon withdrawal.