This article has been updated for the 2022 & 2023 tax years. When you are about to sell your home, one of the first things that you should consider is if you will have to pay capital gains taxes on the sale. This is a topic that hasn’t come up much in recent years with property values declining, nevertheless, it should be on the radar of those joining the world of home ownership.
Capital Gains on the Sale of a Home: A Good Problem to Have
If you have to pay capital gains on the sale of a home, it’s really not a bad problem to have. It means your house has appreciated in value since you have purchased it. You’re luckier than many who have sold their homes in recent years! That being said, there are certain rules and exceptions that can exclude you from paying capital gains on the sale of property that should be at the top of your mind.
Real Estate Capital Gains Principal Residence Exclusion
There is a huge real estate capital gains tax exclusion that allows you to exclude $250,000 in profit (when filing as an individual) or $500,000 in profit (when married filing jointly). In order to be eligible for exclusion from having to pay capital gains, you must have lived in the home as your main principal residence for 24 months (2-years) out of the last 5 years.
Why should you pay attention to this? Well, if you are considering when to sell your home and you know that you will make profit on it, but you’re not quite to that 24-month mark, you may want to consider holding until you hit that 2-year mark.
Exceptions to the 24 Month Rule
If you lived in your home less than 24 months, you still may be able to exclude a portion of the exclusion amount.
According to the IRS, principal residence exclusions (primary home) are allowed for certain work-related moves, health-related moves, and “unforeseeable events” that may happen during the time you lived in and sold the home, including:
- Your home was destroyed or condemned.
- Your home suffered a casualty loss because of a natural or man-made disaster or an act of terrorism. (It doesn’t matter whether the loss is deductible on your tax return.)
- You, your spouse, a co-owner of the home, or anyone else for whom the home was his or her residence:
- Became divorced or legally separated, or were issued a separate decree to pay maintenance (support) to the other spouse;
- Gave birth to two or more children from the same pregnancy;
- Became eligible for unemployment compensation;
- Became unable, because of a change in employment status, to pay basic living expenses for the household (including expenses for food, clothing, housing, medication, transportation, taxes, court-ordered payments, and expenses reasonably necessary for making an income).
There are some exceptions to eligibility that may require you to explore the documentation further:
- A separation or divorce occurred during the ownership of the home.
- The death of a spouse occurred during the ownership of the home.
- The sale involved vacant land.
- You owned a remainder interest, meaning the right to own a home in the future, and you sold that right.
- Your previous home was destroyed or condemned.
- You were a service member during the ownership of the home.
- You acquired or are relinquishing the home in a like-kind exchange.
- You used the entire property as a vacation home or rental after 2008 or you used a portion of the home, separate from the living area, for business or rental purposes.
Capital Gains Partial Exclusions
The maximum partial exclusion that one can use if they meet one of the previously mentioned exclusions is limited to the percentage of the 24 months that the person fulfilled the requirements. As an example, if you owned and occupied a home for one year (half of two years) – you may exclude half the regular maximum amount, or up to $125,000 of gain ($250,000 for most married filing jointly returns). The proportion may be figured in days or months.
How do you Report Capital Gains on Real Estate in your Tax Return?
You must use IRS Form – Schedule D to report gains. When you have owned your home for less than a year, it is considered a short-term capital gain. Over a year is considered a long-term capital gain.
Can you Deduct Capital Losses on a Home Sale from Taxes?
Sorry, no. Real estate capital gains (and capital losses) are treated completely differently than other investments. Capital losses on home sales cannot be deducted.
What About Exemptions on Capital Gains for Investment Property?
Sorry, you are not excluded from paying capital gains. In fact, capital gains on real estate were primarily created to take a cut of investment property gains. This goes back to the home needing to be your principal residence for two years rule.
More Real Estate Capital Gains Tax Help
If this is a topic that hits ‘close to home’ (pun intended), you may also want to check out these IRS articles:
- IRS Topic 701: Sale of a Home
- IRS Publication 523: Selling your Home
- IRS Publication 530: Tax Information for Homeowners
Home Sale Taxes Discussion:
- Have you had to pay capital gains on a home sale?
- Have you been eligible for the exclusion on a previous sale?
- Did you wait to hit two years before selling to be eligible for the exclusion?