Capital Gains Taxes

Many people think that in order to avoid/defer paying taxes on your home sale proceeds, all you have to do is re-invest the proceeds into another home purchase of equal or greater value within a certain time period. This was a tax rule until 1997 but the tax laws have since changed. Now, taxes are based on capital gains and whether or not you’re taxed will be evaluated based on a small subset of guidelines.

If you’re thinking of selling your home during your downsizing move, it’s really important to understand the tax implications before making this large financial decision. Today’s blog will give you some great information, but Jess Lex Homes is not an accounting firm, so please confirm how things will work in your situation with a qualified tax advisor. 

Before we get into some of the tax-specific qualifications, what are “Capital Gains”? A Capital Gain is the profit you make from selling an asset. For a home, your gain is calculated by taking the current sale value of your home and subtracting the original purchase price of your home. You can also subtract from your profits some of the costs you put into improvements of your home over the years as well as the expenses for selling your home.

Whether or not you will pay capital gains tax at the time of a sale will likely depend on your answers to a few questions.

1. Ownership and Residence Requirement - If you have owned and lived in this property as your primary residence for 24 months (doesn’t have to be consecutive) of the last 5 years, the proceeds from your home sale may qualify for a capital gains tax exemption.
2. Profits - If you can say “yes” to #1 and the profits from your sale will be less than $250,000 (individual tax filing) or $500,000 (joint tax filing), the proceeds from your home sale may qualify for a capital gains tax exemption.
3. Look Back - If you can say “yes” to #1 and #2 and you haven’t sold another primary residence and already taken a recent capital gains tax exemption from the sale of another property in the past 2 years, the proceeds from your home sale may qualify for a capital gains tax exemption.

If you are in the tough situation where your spouse recently passed away and you decide to sell your home, how does that affect your profit threshold (#2 above)? If you filed taxes jointly prior to the passing of your spouse and you sell your house within 2 years of the date of your spouse’s passing, you may be able to claim the full $500,000 capital gains tax profit exemption for a married couple filing jointly. 

If you think the value of your home could put you over the “Profit” threshold for your tax filing status, there are ways that you can reduce the profit you have to claim. As you continue in your homeownership, keep close track of any improvements you make to your home. If you aren’t tracking this already, find documentation for past improvements as well. Keep a binder with this information so it’s easy to pull out when the time comes. Also, make sure you let your accountant know about expenses related to the sale of your home such as commission and title fees.

Lastly, how do capital gains work when it comes to second properties or vacation homes? Unfortunately, because this second home is not your primary residence, you wouldn’t likely qualify for a capital gains exemption at its sale. If you’re thinking about shifting some property in the upcoming years and want to be strategic about your tax liabilities, consider selling your primary residence first. Take your exemption on your primary property and then move into your secondary residence for at least 2 years. By the time you sell, you can now claim that this property was your primary residence and might qualify for the capital gains tax exemption once again. 

To get the most accurate information on what your tax liabilities will be, take your Net Sheet provided by your real estate agent and information about home improvements to your tax accountant to do some tax projections prior to your sale. Armed with that information, you can make the most informed decision on how and when to sell your home.