Taxes and Inheritance for Investors

Capital gains, tax-loss harvesting, step-up in basis, inherited IRAs under the SECURE Act, and the estate-planning mechanics every investor eventually.

By Michael Hewitt, Founder & Editor-in-Chief. Updated September 29, 2026.

Two dates decide more of an investor's tax bill than any fund choice. A $6,000 gain sold one day short of a year costs $1,440 in the 24% bracket; sold a day later, at the 15% long-term rate, it costs $900. A $410,000 gain sold late in life costs about $97,580 at the top 23.8% rate; held until death, it passes to heirs at a stepped-up basis and costs nothing. Both savings take only knowing the rule.

Capital Gains: The Core Mechanics

When you sell an investment for more than you paid, the profit is a capital gain. The tax rate depends on one thing: how long you held it.

• Short-term (held 1 year or less): taxed as ordinary income. Rate: 10%, 12%, 22%, 24%, 32%, 35%, or 37% based on your bracket.
• Long-term (held more than 1 year): taxed at preferential rates. Rate: 0%, 15%, or 20%.
• For 2026, the 0% long-term rate applies up to $49,450 of taxable income for a single filer ($98,900 married filing jointly), and 15% up to $545,500 ($613,700 joint); 20% above that. The limits move every year, so check irs.gov before timing a sale.
• Holding period counts the day after purchase through the day of sale. One day short of a year means short-term rates.

The Net Investment Income Tax (NIIT) Surtax

High earners face an additional 3.8% surtax on investment income (dividends, interest, capital gains, rental income). The thresholds have not been indexed for inflation since 2013, so more investors hit them each year.

• Single filers: NIIT applies above $200,000 modified AGI.
• Married filing jointly: NIIT applies above $250,000 modified AGI.
• The 3.8% is on the LESSER of investment income or the amount above the threshold.
• Effective top rate on long-term gains becomes 23.8% (20% + 3.8%); short-term becomes 40.8% (37% + 3.8%).
• State taxes stack on top: California high earners pay ~37.1% on long-term gains after combining federal + NIIT + state.

Tax-Loss Harvesting: Turning Losses Into Savings

Tax-loss harvesting means selling a losing position to realize the loss, then using it to offset gains or up to $3,000 of ordinary income.

• Capital losses first offset capital gains of the same type (short vs long). Net losses then offset the opposite type.
• Up to $3,000 of remaining loss offsets ordinary income per year ($1,500 if married filing separately).
• Excess losses carry forward indefinitely: there is no expiration.
• Only available in taxable accounts; losses in IRAs and 401(k)s are not deductible.

The Wash-Sale Rule: Don't Waste the Harvest

If you sell at a loss and buy a 'substantially identical' security within 30 days before OR after the sale, the loss is disallowed and added to the basis of the replacement. The rule exists to prevent fake losses while maintaining the same exposure.

• Window: 30 days before + day of + 30 days after = 61-day danger zone.
• 'Substantially identical' is undefined but clearly covers the same ticker and near-identical index funds. VOO → IVV (both track the S&P 500) is debated; most tax pros avoid it.
• Wash sales count across accounts, including your IRA, your spouse's accounts, and joint accounts. An IRA-triggered wash permanently loses the deduction (basis can't be added to an IRA).
• Your 1099-B flags a wash sale (box 1g) only when the same security is sold and rebought in the same account; repurchases in an IRA, a spouse's account or at another broker are yours to catch.
• Safe swaps: VTI (total market) → SCHB (slightly different index, different sponsor) or VOO (S&P 500) → VONE (Russell 1000).
• 401(k) dividend reinvestments can inadvertently trigger wash sales if you hold the same fund in both accounts. Audit annually.

Step-Up in Basis: The Biggest Gift in the Tax Code

When an investor dies, assets in taxable accounts get a 'step-up' in cost basis to the fair market value on the date of death. The heir inherits at the new basis, so all pre-death gains escape capital gains tax forever.

• Applies to taxable brokerage accounts and real estate. Does NOT apply to Traditional IRAs, 401(k)s, or annuities (those are taxed as ordinary income to the heir).
• Roth IRAs do not need it: qualified withdrawals are already tax-free.
• Community-property states (CA, TX, AZ, WA, etc.) give surviving spouses a 100% step-up on all community assets; common-law states only step up the deceased spouse's half.

The Inherited IRA 10-Year Rule (SECURE Act)

The SECURE Act of 2019 dramatically changed how non-spouse heirs must handle inherited retirement accounts. The old 'stretch IRA' that let heirs spread distributions over their lifetime is dead for most beneficiaries.

• Non-spouse beneficiaries must empty the inherited IRA by December 31 of the 10th year after the original owner's death.
• Traditional inherited IRA withdrawals are taxed as ordinary income. Roth inherited IRA withdrawals are tax-free (but still subject to the 10-year rule).
• IRS guidance in 2024 confirmed that if the original owner was already taking RMDs, annual RMDs ARE required during years 1-9 AND the account must be empty by year 10.
• Exempt beneficiaries (Eligible Designated Beneficiaries) still get lifetime stretch: surviving spouses, minor children (until majority), disabled or chronically ill individuals, anyone within 10 years of the decedent's age.
• Strategy: heirs in low-income years should accelerate distributions to stay under higher brackets; heirs at peak earning years should delay until retirement if possible.

Key Takeaways

• Hold winners past one year: on a $6,000 gain, one extra day saves $540 in the 24% bracket.
• Track wash sales yourself; your 1099-B flags only repurchases in the same account.
• Past 65, hold appreciated taxable assets for the step-up instead of harvesting gains.
• Beneficiary forms override your will: audit them every year.