How US taxes affect a monthly ETF rotation: short-term gains, long-term gains and account type
For a strategy that trades every month, taxes can matter more than commissions. The good news is that where you hold the strategy changes the picture completely. This guide is general education about US rules as we understand them; tax law changes and personal situations differ, so check with a qualified professional.
The basic rule: every sale can create a taxable gain
In an ordinary taxable brokerage account, selling an ETF for more than you paid creates a capital gain. How it is taxed depends on how long you held it:
- Held one year or less (short-term): taxed at your ordinary income tax rate.
- Held more than one year (long-term): taxed at the preferential long-term rates (0%, 15% or 20% depending on income).
- Higher earners may also owe the 3.8% net investment income tax on top.
A monthly rotation often holds positions for only a few months, so many gains end up short-term, which is the more expensive kind.
Why this hits tactical strategies harder
A static portfolio rebalanced once a year trades rarely, and can often hold winners for over a year. A monthly strategy:
- Sells winners soon after buying them, so the gains are short-term.
- Has higher turnover, so more sales fall in each tax year.
- Cannot easily defer the tax: the signal decides when you sell, not your tax calendar.
The backtests on this site show turnover for each strategy (see the metrics guide). Turnover multiplied by the share of trades at a gain gives a rough idea of how much realised gain you will report each year.
A simple illustration
Suppose, as a made-up example, a strategy sells $4,000 of positions in a year from a $10,000 account and the sold positions carried $400 of short-term gains. At a 24% marginal rate that is $96 of tax, about 1% of the account. With the same gains taxed at 15% long-term, it would be $60. The numbers are invented; use your own rate and your own trades.
Where the strategy is held matters
| Account type | Tax on trades inside the account |
|---|---|
| Taxable brokerage | Yes, gains are reported each year |
| Traditional IRA / 401(k) | No tax on trades; taxed when you withdraw |
| Roth IRA / Roth 401(k) | No tax on trades; qualified withdrawals are tax-free |
| HSA (if invested) | No tax on trades if used for qualified medical costs |
This is why many investors who follow a tactical strategy run it inside a tax-advantaged account. The next guide covers that in detail: running a tactical strategy in an IRA.
Ways to reduce the drag in a taxable account
- Use a rebalancing threshold so tiny signal changes do not trigger sales (see mistakes to avoid).
- Choose strategies with low turnover, such as Dual Momentum or a static portfolio.
- Harvest losses carefully, keeping the wash-sale rule in mind.
- Keep the tactical part small and a passive core for the rest.
- Keep records: a trade log with dates, prices and lots makes your return far easier to prepare.
Frequently asked questions
Are ETF dividends taxed too?
Yes, in a taxable account dividends and distributions are generally taxable in the year received, either as ordinary or qualified dividends.
Does switching between ETFs trigger tax even if I immediately buy another?
Yes. Selling is the taxable event; what you buy afterwards does not matter.
Do the backtests on this site include taxes?
No. They include a simple per-trade cost only. Taxes depend on each investor. See the methodology.
Is this tax advice?
No. It is general information. Rules and thresholds change, so confirm current rules with the IRS or a tax professional.