Selling a home is a major life change. Maybe you are moving into a bigger house after you have outgrown your starter home, or you are downsizing when your kids go off to college. Or perhaps you are purchasing a house in a different part of the country as a result of a new job. You are wondering if there are tax tips for selling your house?
Whatever the reason, selling the place you call home is a big deal. But selling a home can be a particularly difficult task, especially when you factor in the numerous and unpleasant tax implications involved. As a homeowner, it is important to understand how your taxes will affect if you sell your home. Before you pack up and move in, here is how putting your home on the market affects your tax return.
Despite most of the profits from home sales are now tax-free (if you qualify for tax exemptions), there are still steps you can undertake to increase the tax gains from selling your property. Learn how to calculate your winnings, factoring in your base, home improvements, and more.
If you are selling your main home, the tax law allows you a very generous exception for the profits you make. In fact, most home sales avoid taxation altogether.
So, when you sell your home, you will probably find that packing and unpacking in your new home will be a much more difficult task than calculating your income tax bill from the sale.
There is a good chance that you will not even have to report the transaction to the tax office. This guide explains what you need to know about home sales taxes.
We are here to help you navigate the rules and regulations, so you can feel more confident about the taxes you owe or even better should not.
The Eligibility Test from the IRS
You can exclude $250,00.00 if you are filing as single or married and filing separately and $500,00.00 if filing as married filing jointly from the profits of your property. There are three main requirements that you must meet to qualify for the aforementioned tax break:
(1)Your are automatically disqualified if:
- If you got the real estate through a (301 exchange) or a “like-kind exchange”
- If you are required to pay an expatriate tax
(2) Ownership Test
You must have possessed the home for a minimum of two years out of the five years of the date you sold your property.
Example: If you lived in a house for ten years as your primary residence and then rented it out two years before selling, for example, you will still meet this test. But if you have owned a home for less time, you are not eligible for tax benefits
(3) Residence Test
This is simply if you have used the home as your residences for 2 out of the 5 years.
Note: This means that secondary homes, such as holiday homes and net rental properties, are not likely to qualify for this tax break.
(4) The Lookback Test
If you have sold another house and took tax exclusions 2 years before you sold your latest house, you a not eligible. You can only take a tax exclusion every two years for each house you sell.
If you meet these criteria, you are eligible for the exclusion.
Didn´t meet the Eligibility Test? Check out the reduced exclusion:
If you don’t meet the criteria for ownership, residency, or the Lookback test a portion of your profit may still be tax-free. The reduced exclusion allows you to claim some of the tax benefits, even if you do not meet all of the above requirements. For example, if you only live in your home for one year, you can be exempt for as little as $ 125,000 from any profit you make from selling your home.
However, you must have a good reason to qualify for the reduced exception. Good reasons include
- change of employment,
- change of health, or
- other unexpected circumstances, such as a dissolution of marriage or multiple births from a single pregnancy.
If you need to move to a new house because you do not have enough rooms for your growing family, the Internal Revenue Service still allows you to eliminate some profit – it is just a little fewer than the complete exclusion sum. Check publication 523 on page 6 to see the other reduced exceptions.
Remember that while you can use the exception any number of times during your lifetime, you can’t use it more than once every two years.
Tips on how to report the sale of your house: Gain or Losses
Lets look at if you are required to report the gains or losses from the sale of your home. The rules here are pretty black and white. Check out our tax tips on selling your house!
You must report on your tax returns if:
- You did not qualify for excluding the taxable gain from your income
- If you did not choose to claim the exclusion (this could be a good strategy if you are planning to sell another property in the next two years and you know that there will be a larger gain on that property; it makes sense to pay the capital gains tax on the less valuable property)
- If you receive Form 1099-S (even if you did not have any taxable gain)
You dont´t have to report the sale of your home if:
- You didn´t meet the three conditions above
For example, if your profit from selling your home is less than the exemption amount and you meet the requirements, you don’t need to report your home sale on your tax return.
Note: If you get a form, even if you qualify for an exemption, it doesn’t necessarily mean you have to pay taxes. However, this means that you will have to report the sale. To avoid receiving this form, you must confirm (usually when closing) that you meet the ownership, use, and time tests that we noted earlier.
Just make sure that you report the gains or losses if you are required, if you do not it will turn into a tax nightmare that you don´t want!
How to determine a Loss or Gain
If you end up having to report your loss or gain on your tax returns then here is an overview of the process to help guide you through the process. Note: that we are just giving you the overview and tax tips on selling your house, please seek a professional when figuring your loss or gain.
From the net sales proceeds, that is the sale price fewer selling expenses, including the real estate agent’s commission and or other expenses, subtract the adjusted tax basis and you will either see a gain or loss. Here is what the figure looks like:
As you can imagine, capital improvements increase your basis or the amount of your capital investment in assets for tax purposes. You can include some of the costs involved in the purchase and maintenance of your house. Let’s look at what some example that adds and subtracts your basis:
|Adds to Basis||Subtracts Your Basis|
Central Air Conditioning
Changing all electric wires in home
Damaged property restoration
|Certain insurance deductions|
Some vehicle credits
Corporate distributions (nontaxable)
Closing Costs and Fees
Here is a list of closing costs/ settlement fees that you can factor into your basis:
- Certain title fees (abstract fees)
- Costs incurred in installing utility services
- The legal fees (title search, preparation of sales contact & deed)
- Owners Title Insurances Costs
- Fees from Recording
- Stamp Taxes
- Transfer Taxes
Improving your home adds prolonged value to your house and can be added to the basis of your property. Here are some examples that you can factor into your basis to:
- Additions to your house:
- Porches, etc
- Improvements to the exterior of the home:
- siding etc
- The property grounds:
- Swimming pools
- Your Driveway
- Retainment walls etc
- House Systems
- Central A/C
- Work on Ducts
- Central vacuums or Humidifiers
- electric wirings etc
- Interior Remodeling
- Fireplaces etc
- Hot water heater
- water filtration systems
Making the second home the main place of residence
While the guideline that allows homeowners to take up to $500,000 (married couples) of profit tax-free applies only to the sale of your principal residence, it has been permissible to extend the tax relief on a second real estate by making it your principal residence before you sell it.
If you happen to have another home, whether it is a vacation bungalow, a rental cottage, or some other dreamy escape, it is tricky to take advantage of the tax gain that makes possible for married property owners claim up to $500,000 of tax-free profits when they sell their main house.
To claim the benefit, you must own your second home for at least five years and must have lived in it for at least two of those five years. The years of personal accommodation do not need to be subsequent.
Due to that reason, some people prefer to convert rental real estate into their primary residences. This is a good tax tip for selling your rental house! Otherwise, be prepared to pay a steep long term capital gains tax. Interested in what capital gains tax rates are? Look at this table:
Tax Rate of Long-Term Capital
|20%||$441,451 or more|
Tax tips for home sellers
- If the cost of a new housing property is lower than the full sale amount, the exclusion is allowed commensurately. For the remaining amount, you can reinvest the money in accordance with section 54EC within 6 months.
- The exemption is allowed even if the developer of a new residential building does not transfer the property to the taxpayer within three years from the date of purchase.
- Capital profits will be counted on an estimate approved by the state stamp and registration authority. The tax authority can protest if the factual value of the sale is lower than the cost estimate of the home by the state authority.
- If you do not have the opportunity to make reinvestment of profits in another home or bond ahead of filing your tax return for the year in which the trade happened, deposit the balance in your capital gains account to be eligible for the deduction.
- If you buy a house and do improvements to it throughout the time that you live in it, SAVE THE RECEIPTS, especially if you plan to sell the home
- Turn your rental property into your primary residence in order to avoid the hefty capital gains tax
- If you record a loss when selling your home then it is your won personal loss; you cannot deduct it
- You can decide not to exclude the gain to save it for another future property sale
- Makes sure your keep an updated address with the IRS. Whenever you sell your home fill out Form 8822 to update.
Finally, be active throughout the year by making appointments with a tax adviser or CPA, starting tax conversations with your agent, and keeping receipts for all your real estate expenses, such as home improvements or renovations in a dry place or turn them into digital copies.
Bring these papers with your newfound tax experience in tow so you can feel empowered when you apply in the spring-regardless of the outcome.
While the tax implications of selling a home are relatively black and white, meaning you will or will not have to pay taxes on the profits you make after closing, the sensitivity of this issue stems from the strict time frames and thresholds that the IRS applies.
While the best real estate agents should have a basic understanding of the financial implications of selling a home, you should discuss most of your tax issues and concerns with a tax adviser. Choose a professional who has the most up-to-date information for any given year and whom you trust to discuss your situation openly and freely.