The History of Capital Gains Taxes

Any time you sell an investment asset for a profit, you’ll generate capital gains tax on those proceeds. These assets can include stocks, bonds, precious metals, cryptocurrencies, and similar investments, as well as commercial real estate.

The amount of tax you’ll have to pay on sale proceeds depends on how long you’ve had the asset -- assets held for more than one year (long-term gains) are taxed at lower rates than assets held for less than 12 months (short-term gains). Your income tax filing status and gross annual income also factor into the capital gains tax rate.

In this article we’ll discuss the history of capital gains taxes, as well as what you can expect to pay in capital gains today.

A 90-Year History of Capital Gains Taxes

Capital gains taxes were first enacted in 1913. Through 1921, all capital gains were taxed at the same rate as all other forms of income up to 7 percent. This was a significant shift, as the U.S. sought increased income for its participation in World War I.

The 16th Amendment to the Constitution, enacted in 1913, provided Congress the power to levy tax on income. In October of that year, the first income tax was levied -- 1 percent and increased to 7 percent for people making more than $500,000 annually. In 1916, the minimum income tax was raised to 2 percent, while Americans with income greater than $1.5 million were taxed at 15 percent. The War Revenue Act of 1916 saw a radical increase in income taxes: 16 percent for Americans making $40,000 annually and a staggering 67 percent for those with yearly income north of $1.5 million.

Those numbers may seem high, but just 5 percent of the U.S. population paid any tax at all -- $40,000 being a huge sum of money in those days. Adjusted for inflation, $40,000 in 1916 was just shy of $1 billion in 2020 dollars.

Swinging back to capital gains taxes, the Revenue Act of 1913, followed by similar acts in 1916, 1918, and culminating with the Revenue Act of 1921, sought to further define and standardize the way taxes were levied on profits. The 1921 act, however, split gains from capital assets into two categories: those held for more than two years and those held for less than two years. Short-term gains were taxed at standard income tax rates, while long-term gains were taxed at a flat rate of 12.5 percent. The changes were in response to concerns that the combination of capital gains and income taxes were stifling transactions -- and combined, those two taxes reached a peak of 77 percent during World War I.

Further tweaks to capital gains treatments came with the Revenue Act of 1926 and again in 1928. The Revenue Act of 1934, coming on the heels of the Great Depression, saw comprehensive redrafting of capital gains tax structure. In the early 1930s, many wealthy individuals paid no income tax because their deductions from losses in stocks and bonds completely offset their standard earnings. Capital losses were limited to the extent of capital gains, with the caveat that $2,000 could be charged off against standard income.

Further changes came with revenue acts in 1938, ’39, ’40, ’41, ’42, and ’43, including clarification of capital property assets used in business or trade and provisions that governed capital gains tax rates, holding periods, and capital losses in 1942. 

Capital gains tax rates were increased again with the Tax Reform Acts of 1969 and 1976. In 1981, the capital gains tax rate was capped at 20 percent. The Tax Reform Act of 1986, however, increased that rate to 28 percent. The Taxpayer Relief Act of 1997, meanwhile, reduced the cap on capital gains tax rates back to 20 percent. Gains in Roth IRAs also were permanently exempted from capital gains taxes under the 1997 act, as were capital proceeds from the sale of personal residences up to $500,000 for married couples and $250,000 for single filers.

Additional capital gains tax rate reductions came with the Economic Growth and Tax Relief Reconciliation Act of 2001 and the Jobs and Growth Tax Relief Reconciliation Act of 2003. 

Capital Gains Taxes Today

The biggest changes in capital gains taxes over the last decade came with the Tax Cuts and Jobs Act of 2017. Deferment of capital gains taxes for investors who complete 1031 exchanges was maintained for real property assets but eliminated for other assets, such as art or collectibles. It also excluded gains from Opportunity Fund investments held for a decade or longer, while investments held between five and ten years are subject to partial exclusion.

The tables below show both short- and long-term capital gains tax rates for 2022:

Short-term capital gains

Long-term capital gains

Complete a 1031 Exchange to Defer Capital Gains Taxes

Investors who dispose of real property don’t have to reinvest the proceeds, but any gains realized from those capital assets are subject to the tax rates listed above.

You can defer those taxes, as well as any depreciation you claimed on the asset, by reinvesting those funds into a like-kind asset and completing a 1031 exchange. The exchange process is subject to some hard deadlines, though, so it’s important to get potential replacement properties and an exchange team lined up well in advance of closing on your original investment asset.