You should consult with your tax advisor about interest and fee deductions associated with your Mortgage Refinance Figure.
Selling your home can be an exciting opportunity as you move on to the next phase of your life. But before you go too far, you should be aware of the potential tax consequences of selling your home. A little tax plan can save you a lot of money on taxes.
You may not have to pay federal income tax on the sale of your home thanks to the significant capital gains exemption, but not everyone does. Here’s what you should know about the capital gains tax you may have to pay before selling your home.
What is capital gains tax?
You usually have to pay capital gains tax each time you sell a capital asset along with profits. While capital asset sounds like a fancy term, the IRS says it’s almost everything you own, both in terms of specialty items and investments.
Finding consciously the details of the capital gains tax is a little more complicated. First, find out whether you are selling the item at a loss or a profit. To do this, you have to calculate whether you are selling more than the bottom line.
The base can vary widely from item to item, but that’s usually the price you pay for it. Sometimes, you can include the money spent on adding assets as a basis. This is the case for where you live. If you build an unfinished underground area, the cost may add to your base. That said, standard repairs and maintenance, like repainting the walls in your guest area, are not possible.
Once you know whether you are getting capital gains from selling capital assets, you need to be aware of which capital gains tax rates apply. You pay a short-term capital gains tax rate unless you hold the asset for one year or less. This rate is similar to the regular income tax rate you pay on your income, which can be as high as 35% according to various state laws.
You get favorable tax treatment unless you hold the asset for more than one year. In this case, you pay the long-term capital gains tax rate. This rate is much lower than the regular income tax rate and can be as low as 0%. On the high end, the long-term capital gain rate is capped at 15% for the average person, but other higher rates may apply unless you have a high income or sell certain types of capital assets.
Do you have to pay capital gains tax on the sale of your home?
If there are no specific rules, you could end up paying capital gains tax on the sale of your residence. Fortunately, you can foreclose on large exceptions under special circumstances to avoid paying capital gains taxes on hundreds of thousands of dollars in profits.
If residence is your primary living area
Most people living in the primary residence area are eligible for a capital gains exemption of $250,000 for single filers or $500,000 for co-filing with the married. This potentially allows you to make a tax-free profit on the sale of your residence up to the amount allowed for your filing status.
To qualify for this exception, you must pass two tests:
You must own the residence for two of the last five years before the date of sale.
You also have to use the home as your primary residence for the first two to five years prior to the sale date.
As with other tax conditions, there are exceptions that can disqualify you. Check again with a tax professional or by using the best tax software before thinking you qualify for this exemption.
If it is an investment property
If you invest in real estate, you can still hold your investment property as it is and not live in it. In this case, you do not qualify for the $250,000 capital gain exemption.
However, you may still qualify unless you live in the residence before turning it into a rental property. As long as you meet the ownership and use test for two of the last five years prior to selling the home, you will usually still qualify for an exemption. This is even more beneficial if you are a house flipping investor as long as you pass the test.
Owning an investment property makes it difficult to calculate the amount of capital gains due to real estate rental tax rules. You may also have to pay depreciation tax again when you sell your rental home. Contact your tax professional for more info.
And while there are more than one exemption, several more than one major, you can qualify for this capital gains tax exemption only once every two years.
The main thing is
Minimizing taxes is not a key to building wealth. You may not have to pay federal income taxes when you sell your home because of the $250,000 or $500,000 capital gains exemption for eligible homeowners. But unless you have a profit that exceeds that amount or you don’t pass the tests required to qualify for an exemption, you may still be able to lower your taxes in a different way, but along with the main one.
Carefully check your suit as a homeowner to see if you can add to the base of the home with the money you put in it. Residential repairs usually add to your base, whereas maintenance usually doesn’t. You may need documentation of expenses, but every dollar you can add to the base is a dollar less that you must pay capital gains tax for.
This article is published for informational purposes only and is not intended to provide, and should not be relied on for, tax, legal, or accounting advice. You should consult with your own tax, legal, and accounting advisor when preparing your tax return.