The money you make from selling your home may be taxed. Here’s how it works and how to avoid a huge tax bill
It feels great to get a high price for the sale of your home, but in some cases, the IRS may want a share of the action. That’s because capital gains on real estate are taxable. Here’s how you can minimize or even avoid the tax bite on the sale of your residence.
What is capital gains tax?
Capital gains tax is the fee you pay on the profits you make from selling assets.
Capital gains taxes can apply to securities — both stocks and bonds — and tangible assets — real estate, cars, and boats.
The IRS and many states assess capital gains taxes on the difference between what you paid for an asset (your cost basis) and what you sold it for (your selling price).
» Learn more: Capital gains tax rates — and how to calculate your bill
How does capital gains tax work in real estate?
It relates to your tax filing status and the selling price of your residence, but you may qualify for an exemption. The IRS generally allows you to exclude up to:
$250,000 capital gain on real estate unless you are single.
$500,000 comes from capital gains on real estate unless you are married and filing together.
For example, unless you buy a house 10 years later for $200,000 and sell it today for $800,000, you will make $600,000. If you are married and file together, the $500,000 of the gain may not be subject to capital gains tax (but $100,000 of the gain may be).
» Considering selling? Learn tricks for any market
When do you pay capital gains on home sales?
You pay taxes on all profits from the sale of your residence unless one of these factors is true:
You own the following properties for less than two years in the five year period prior to the time you sold them.
You have not lived in the residence for at least two years in the five year period prior to the time you sell it. (People with disabilities, and people in the military, Foreign Service or intelligence community can get a break in this section, watch IRS Publication 523 for details.)
You have claimed a $250,000 or $500,000 exemption for another residence in the two year period prior to the sale of this residence.
You’ve purchased a residence through a one-of-a-kind exchange (essentially replacing one investment property with another, also known as a 1031 exchange) in the past five years.
You are subject to expatriate taxes.
Still not sure if you qualify for the exception? Our tools may help; unless not, scroll down to learn how to avoid capital gains tax on home sales:
If it turns out that all or more of one of the money you make from the sale of your home is taxable, you should find out what capital gains tax rates apply.
Short-term capital gains tax rates generally apply unless you own less than one year of assets. The rate is the same as your regular income tax rate, also known as your tax bracket. (What tax bracket am I in?)
Long-term capital gains tax rates generally apply unless you own the following assets for more than one year. Fares are much lower; many people qualify for a 0% tax rate. Everyone pays 15% or 20%. It relates to your filing status and earnings
How to avoid capital gains tax on home sales
Live in the residence for at least two years. Two years don’t have to be in a row, but be careful. If you peddle a residence that you haven’t lived in for at least two years, the profits are taxable. Selling in less than a year is too expensive because you can be subject to short-term capital gains tax, which is higher than the long-term capital gains tax.
See if you qualify for the exception. If you have a taxable advantage on the sale of your residence, you may still be able to exclude some of more than one of them unless you sell the residence due to work, health, or “unforeseen events,” according to the IRS. Check IRS Publication 523 for details.
Save receipts for repairs to your residence. The cost base of your home generally includes what you paid to buy it, as well as any upgrades you’ve made over the years. When your cost base is higher, your exposure to capital gains taxes may be lower. Remodels, expansions, new windows, landscaping, fencing, new driveways, air conditioning installations — these are just some of the things that can cut your capital gains tax.