What is the Difference Between Capital Gains and Investment Income?

Posted Nov 6, 2022

how states tax retirement income pt 3-1210578719Investments typically generate income in one of two ways: capital gains and investment income.  

Some investments have the potential to provide both. Understanding the differences between capital gains and investment income can help investors determine which type of investment strategy best meets their financial goals. 

In this article we’ll highlight the differences between investment income and capital gains, and we’ll discuss how both are treated at tax time. 

What is Investment Income? 

There are a few different forms of investment income. 

If you’ve invested in stocks, you may realize investment income in the form of quarterly or monthly dividend payments. These payments are derived from a portion of the company’s gross earnings and are split amongst all holders of the company’s outstanding stock. 

Investment income also can be derived from payments generated by any fixed-income Treasury bonds or bills, CDs, and municipal or corporate bonds held within your portfolio. These debt instruments return a set amount of money back to investors over time in the form of fixed-interest coupon payments. Investors also receive their original investment dollars back when the bond or security matures. 

What is Capital Gains Income? 

Capital gains occur when you sell an appreciated investment asset for a higher price than its original cost basis. 

Capital gains can come from a variety of investments, including stocks, real estate, cryptocurrency, and even your primary residence. Anytime you divest an asset for more than you paid for it, you’ll generate capital gains income. If you continue holding the appreciated asset, you have unrealized gains – you’ll only generate capital gains upon the divestiture of the asset.  

Here’s an example: You bought a rental property for $200,000 and sold it five years later for $250,000. Your capital gains is $50,000 since your original basis in the investment was $200,000. This is a bit oversimplified, though, since a number of factors can reduce your cost basis in an investment property, which will affect your total capital gains. 

Tax Implications of Capital Gains and Investment Income 

Capital gains and investment income are treated differently when figuring out your taxes. Any dividend payments you received during the tax year will be taxed differently than other forms of income. Ordinary dividend payments are treated as ordinary income and are subject to your nominal tax rate; qualified dividends, meanwhile, are usually treated more favorably for taxpayers. Qualified dividends are taxed at 0, 15, or 20 percent depending on your income and filing status. 

Capital gains are taxed in one of two ways: short or long-term. Short-term capital gains are generated through realized profits on investment assets held under one year. They are taxed as ordinary income. Long-term capital gains are taxed at 0, 15, or 20 percent depending on your filing status and income level.  

Here’s a side-by-side comparison of tax rates for the different types of income we’ve discussed: 

Capital Gains

Interest Income

Dividend Payments

Realized after selling an investment asset for a higher price than you originally paid for it. 

Typically taxed as ordinary income. 

Fall into one of two categories: Ordinary or qualified. 

Short-term gains: Appreciated assets held less than a year. Taxed at ordinary income tax rates of 10, 12, 22, 24, 32, 35, or 37 percent. 

May be exempt from taxation if interest income is derived from municipal or private activity bonds. 

Ordinary dividends are taxed as ordinary income. 

Long-term gains: Appreciated assets held for a year or longer. Taxed at 0, 15, or 20 percent depending on income and filing status.  


Qualified dividends are taxed the same as long-term capital gains.   

Putting it all Together 

Capital gains and investment income are the two main ways you’ll make money from your investments. You’ll be taxed on both forms of income. The taxes you pay, however, depend on how the income was derived. Your filing status and income level also come into play. 

Consulting with a certified tax professional can help you gain a better understanding of the tax implications of both forms of income and may serve to guide your investment decisions when taxation is a primary consideration. 

This material is for general information and educational purposes only. Information is based on data gathered from what we believe are reliable sources. It is not guaranteed as to accuracy, does not purport to be complete and is not intended to be used as a primary basis for investment decisions. It should also not be construed as advice meeting the particular investment needs of any investor.        

Realized does not provide tax or legal advice. This material is not a substitute for seeking the advice of a qualified professional for your individual situation. 

Hypothetical examples are for illustrative purposes only. 

All investments have an inherent level of risk. The value of your investment will fluctuate and you could receive back less than you initially invested. Unless otherwise noted, there is no guarantee that you will receive any income.

There is no guarantee that companies that can issue dividends will declare, continue to pay, or increase dividends. 

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Cap Gains Calculator For Investors
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Cap Gains Calculator For Investors

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