Breaking it down: the real estate capital gains tax

Breaking it down: the real estate capital gains tax

Are you hoping to sell your house for more than it’s worth?

Before you get too excited thinking about what you could do with all that extra cash, don’t forget about one of the two only guaranteed things in life: taxes.

Fortunately, though, there are a few things you can do to help keep your income safe. If you want to learn more about how the capital gains tax affects home sales, you’ve come to the right place. We’re breaking down exactly what this tax is, how the exemptions work, and what you need to know in order to qualify.

So, what exactly is the capital gains tax?

For those who aren’t aware, the capital gains tax isn’t just for rich people. Anyone who sells their assets for a profit may need to pay it come tax time. Usually, we hear about it in conjunction with the sale of property. But, this tax applies to just about any asset, including stocks and bonds.

The amount you’ll need to pay in taxes is determined by how much you profit from the sale. Usually, your profit is calculated by taking the amount it cost you to get the asset and subtracting it from how much you made in the sale. The result of that is considered income and is what gets taxed. The exact percentage you can expect to pay in taxes will depend on the size of your profit and how long the asset was in your position.

Luckily, there are ways to try and protect your income. You can try to qualify for an exemption, but keep in mind, qualifying requirements will vary depending on what asset you’re selling.

Breaking it down: the real estate capital gains tax

How your home sale can be exempt

Thanks to the Taxpayer Relief Act of 1997, it’s now a lot easier to avoid being taxed on the sale of your home. Previously, you had to either roll the proceeds from the sale of your primary residence into buying a new home, or choose to take a one-time special exemption.

Now, however, each time you sell your primary home, you’re allowed to keep up to $250,000 of unreported profit, regardless of if you intend to buy elsewhere. That amount doubles to $500,000 for married couples.

That said, there are still a few qualifying requirements that you need to meet in order to take this exemption.

You must:

  • Be selling a home that’s your primary residence
  • Live there for at least two years before selling
  • Not have used this exemption for the sale of another property within the last two years

Though these rules sound straightforward, recently married couples who are now filing jointly have to take extra care to ensure they meet the requirements.

Watch out for the following:

  • The home must be the primary residence for both parties, even if one person was added on to the deed after marriage
  • You both have to have lived in the home for at least two years before selling
  • Neither of you can have used this exemption independently within the last two years

Other special exceptions

Life happens, and sometimes people have to sell before they can wait out their two-year deadline. For those occasions, there are other exceptions you can use to keep the profits from your home sale in hand.

They are:

  • Active-duty service members who move around to fulfill their military obligations
  • If one spouse sells the home within two years of the other spouse passing away

Additionally, if you have to sell the home due to a major life change such as a health problem or change of employment status, you may be eligible for a partial exemption.

In this case, to determine how much you’d be allowed to keep unreported, you’d determine the fractional amount of time you’d put towards the two-year period ~ how many months you spent in the home / 24, or the number of months in two years. Then, you’d multiply that percentage by $250,000.

If you feel like you may qualify for one of these exceptions, talk to an accountant. He or she will be able to talk to you more in-depth about the specifics of your situation and help determine what’s the best solution for you.

A note on investment properties

Unfortunately, only primary residences are covered under the tax exemption ~ meaning that when you sell an investment property, regardless of when or why you’re choosing to sell, you should prepare to be taxed. Again, a tax professional can help you determine how much you can expect to pay.

Looking to trade in your existing home for a new one? Use Open Listings to house hunt 24/7, book tours on-demand, and get back an average of $8,500+ when you buy with us.