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Selling A House And Capital Gains
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Of course, you want to make a decent profit on your home when you sell it. But beware: capital gains tax. If your home has increased in value significantly, you may be responsible for a significant amount in your annual income tax.
Fortunately, there are ways to avoid or reduce capital gains tax when you sell your home so you can keep as much of the profit in your pocket as possible. Here’s everything you need to know.
Capital gains tax is the amount of tax on the income (aka capital gains) you receive from an investment or asset when you sell it. It is calculated by subtracting the original cost or purchase price of the asset (the “tax basis”) plus any costs incurred from the final sale price.
Capital Gains Tax On Real Estate And Selling Your Home
Special rates apply to long-term capital gains – assets held for more than a year. Long-term capital gains tax rates are 15 percent, 20 percent, and 28 percent (for certain special types of assets, such as small business collectibles), depending on your income.
Real estate, including residential real estate, is considered a taxable asset. Any profit you receive from the sale of your home must be reported to the IRS: You calculate and pay any money owed to you when you file your tax return for the year you sold the property.
Although its rates are usually lower than regular income tax rates, capital gains tax can still add up, especially on gains from expensive items like a home (the largest asset many people will ever own). Capital gains tax is directly related to the value of your property and any increase in its value. If your home appreciated significantly after you bought it, and you realized it appreciated when you sold it, you could have a significant taxable gain.
If you sell a home or property after owning it for less than one year, short-term capital gains are taxed as ordinary income, which can be as high as 37 percent. Long-term capital gains on property you’ve owned for one year are generally taxed at 15 or 20 percent, depending on your income tax bracket.
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Note: Tax is levied only on profits. If you bought a home five years ago for $150,000 and sold it today for $225,000, your gain would be $75,000. (This is a simplified example, since there are deductions you can take—qualifying home improvements, closing costs on the sale—that would actually lower your net income.) You would have to report the sale of the home and possibly pay capital gains tax on the gain. at $75,000.
For example, in the 2022 tax year, if your taxable income is between $41,676 and $459,750 if you file single, and between $83,351 and $517,200 if you’re married filing jointly, you’ll pay 15 percent of $75,000 . of profit, or $11,250.
However, the IRS provides several ways for home sellers to avoid or reduce their capital gains tax, primarily if the property they are selling is a primary residence. You can exempt a certain amount of income from tax—up to $250,000 or $500,000, depending on your filing status—if certain conditions are met. Details on this are below.
So, you’ll have to pay 15 to 20 percent long-term capital gains tax on all of your earnings, depending on your income and filing status. In some cases, you can pay up to 25 percent if you previously claimed depreciation deductions for the property.
Will I Pay A Capital Gains Tax When I Sell My Home?
If you’re planning to sell a rental property you’ve owned for less than a year, try to stretch your ownership over at least 12 months or it will be taxed as ordinary income. The IRS has no ceiling on short-term capital gains taxes, and you could be hit with a tax of up to 37 percent.
Capital gains taxes can have a big impact on your bottom line. Fortunately, there are ways to reduce or avoid capital gains tax when you sell your home. It depends on the type of property and the status of your filing. The IRS offers several scenarios to avoid capital gains tax on the sale of your home.
You can sell your primary residence and pay no capital gains tax on the first $250,000 of your gain if you’re single and up to $500,000 if you’re married filing jointly. The exemption is only available once every two years. But that could actually make capital gains tax moot.
Let’s say one person bought a house for $250,000, lived in it, and sold it three years later for $400,000. Their income is $150,000. But it is exempt from capital gains tax because it is below the $250,000 threshold allowed for gains.
How To Defer Capital Gains Tax On The Sale Of Real Estate Property
Of course, there are conditions. To qualify a property as your primary residence, the IRS requires you to prove that it was your primary home where you lived most of the time. You need to show that:
However, there is room for vacillation in how the rules are interpreted. You don’t need to show that you’ve lived in the home the entire time you’ve owned it, or even for two consecutive years. you could
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