Taxes on Ordinary Income and Capital Gains

Written By: Jacob Brydels, Wealth Manager  

Now that tax season has ended, it’s a great time to look beyond tax filing and focus on proactive tax planning. At Wheelhouse, we help our clients evaluate tax planning strategies throughout the year, so you can make more informed decisions about your investments, withdrawals, and long-term financial goals.  

1. Ordinary Income 

Ordinary income is the category we are most familiar with. It includes wages from employment, pension income, interest earned on savings accounts, nonqualified dividends, and distributions from traditional IRAs and 401(k)s. This income is taxed using progressive tax brackets, meaning that as income increases, the tax rate on additional dollars also increases. 

For many retirees, Social Security benefits may also become partially taxable depending on overall “combined income.”  

2. Short-Term Capital Gains 

If you sell an asset, such as a stock, bond, mutual fund, or investment property, and have owned this asset less than a year, any profit is considered a short-term capital gain.

The IRS taxes short-term gains at the same rates as ordinary income. These gains are added to your other taxable income and taxed according to your marginal tax bracket. Because ordinary income tax rates are typically higher than long-term capital gains rates, many investors try to avoid selling appreciated investments before the one-year holding period.  

3. Long-Term Capital Gains 

Long-term capital gains generally receive more favorable tax treatment. If you hold an asset for more than one year and sell at a profit, the gain qualifies for long-term capital gains treatment. 

Instead of ordinary income tax rates, long-term gains are taxed at preferential federal rates of 0%, 15%, or 20%, depending on your taxable income and filing status.  

For many retirees and moderate-income households, it may even be possible to realize at least some long-term capital gains at a 0% federal tax rate. 

How Long-Term Capital Gains Tax Brackets Work 

Long-term capital gains stack on top of ordinary income. 

For example, if a married couple filing jointly has $70,000 of ordinary income and realizes $20,000 of long-term capital gains, the gains are added on top of the ordinary income to determine which capital gains bracket applies. 

For 2026, the federal long-term capital gains brackets are:  

Filing Status	0% Rate	15% Rate	20% Rate
Single	Up to $49,450	$49,451–$545,500	Over $545,500
Married Filing Jointly	Up to $98,900	$98,901–$613,700	Over $613,700

This married couple (with taxable income below $98,900) qualifies for a 0% federal tax rate on their long-term capital gains.  

Importantly, these brackets work progressively. Crossing into a higher bracket does not cause all gains to suddenly become taxable at the higher rate. Only the amount above the threshold moves into the next bracket.  

Understanding the Net Investment Income Tax (NIIT) 

Higher-income households may also owe an additional 3.8% Net Investment Income Tax (NIIT) on investment income. This surtax applies to items such as interest, dividends, rental income, and capital gains.  

The NIIT begins once Modified Adjusted Gross Income (MAGI) exceeds the following thresholds:

Filing Status	NIIT Threshold
Single	$200,000
Married Filing Jointly	$250,000
Married Filing Separately	$125,000

The 3.8% tax generally applies to the lesser of: 

• your net investment income, or  

• the amount your MAGI exceeds the threshold.  

For example, if a married couple has MAGI of $270,000 and $40,000 of investment income, the NIIT would apply to $20,000 because that is the amount exceeding the $250,000 threshold. 

How do I best plan for minimizing taxes?  

By strategically utilizing taxable brokerage accounts, pretax retirement accounts, and after tax (Roth) retirement accounts may help reduce lifetime taxes. Careful coordination of withdrawals and investment sales can also help avoid unintentionally triggering higher brackets or the Net Investment Income Tax. 

Tax planning is not just about how much income you receive but also about the type of income you receive. Understanding the difference between ordinary income, short-term gains, and long-term gains can help you make more informed financial decisions throughout retirement. 

Please also note tax laws are subject to change, and individual circumstances will vary. If you have questions about how these concepts apply to your specific situation, reach out to a trusted financial professional or contact Wheelhouse to see how we can help.