Let’s demystify the process of dealing with capital gains taxes when selling your home. If you’re not familiar, capital gains tax applies to the profit made when you sell assets, including real estate. However, the rules and exceptions surrounding this tax can be complex and a little overwhelming.
Capital Gain: What Is It?
At the most basic level, a capital gain is the profit made when selling an asset for more than its purchase price. So, if you bought your home for $250,000 and sold it for $350,000, your capital gain would be $100,000. But remember, not all profit from a home sale is taxable thanks to the primary residence exemption.
Primary Residence Exemption: The Basics
This exemption is a lifesaver for many homeowners. If you’re single, it allows you to exclude up to $250,000 of your home sale profit from capital gains tax. If you’re married and filing jointly, you can exclude up to $500,000. To qualify, you need to have owned and lived in your home for at least two years within the five years leading up to the sale. But remember, this exemption is only usable once every two years.
Primary Residence Exemption: Exceptions
There are, however, a few exceptions to keep in mind. The main one being that you must have used the home as your primary residence for the specified period. If you didn’t live in the home for at least two of the past five years, you might still qualify for a prorated exclusion.
Moreover, if you or your spouse were away on government duty, such as military service or foreign service, for more than 90 days, you can choose to “suspend” the five-year test period for up to 10 years. This means you can still qualify for the exemption even if you were away from your main home due to these obligations.
Capital Gains Tax: Calculation
To determine your capital gains tax, you need to calculate your taxable capital gain, which is the profit after taking any exemptions into account. You also need to know your adjusted basis, which is the original price you paid for your home, plus the cost of any improvements, minus any depreciation.
The IRS website is an excellent resource for understanding capital gains tax. To go deeper, consider working with a tax professional.