Two things we are absolutely sure of in this life are death and taxes. In terms of the latter, they come in many forms. One form is capital gains. It is a tax on certain assets that increase in value over time. Real estate is subject to capital gains tax under certain circumstances.
If you are selling a home, you need to be aware of how capital gains rules apply. Most sellers are exempt thanks to the Taxpayer Relief Act of 1997. However, the law still bears looking into. In the event that selling your home does trigger a tax liability, you don’t want the IRS to discover you haven’t paid your bill.
Capital Gains Basic Principles
The simplest definition of a capital gain is the increased value realized when an asset is sold. Your home is an asset with a defined value based on market conditions. Perhaps you bought it for $100,000. The purchase price was its defined value at the time. If you sell for $200,000, the sale price is its new defined value. The difference between the two values is the capital gain.
Capital gains are completely separate from income under the law. That is a good thing because a lot of people wouldn’t be able to afford to sell their homes if the increased value were taxed as income. Capital gains taxes are more affordable because they are assessed at a lower rate.
As a side note, this explains why some very wealthy individuals do not pay income tax. They don’t have regular income earned from working a job or running a business. Their only revenue comes from capital gains on their investments.
Exempt Home Sales
Prior to 1997, virtually all residential real estate transactions were subject to capital gains tax. That’s no longer the case. By revising the law, Congress turned the tables. Now, only the most expensive homes with the highest capital gains values are subject to tax.
Whether or not a home sale is taxable depends on the increased value. If you are single, you don’t have to pay any capital gains on profit of $250,000 or less. Let’s say you buy for $100,000 and sell for $349,000. You would not owe any capital gains tax. Married couples filing jointly have a higher capital gains threshold on real estate deals at $500,000.
There are certain conditions that apply. First, only primary residences qualify for the capital gains exemption. Selling a rental property will incur capital gains taxes regardless of the amount of profit. The other condition is a time constraint. In simple terms, you can only take advantage of the capital gains exemption once in any given two-year period.
Push for the Best Deal
Thanks to changes in the law, it is now possible to push for the best deal on your home without having to worry about capital gains taxes. According to the agents at the CityHome collective real estate brokerage in Salt Lake City, Utah, that’s exactly what sellers should do. They should push to get every single dollar they can out of their homes.
A good real estate broker knows what the market will bear. They will know how hard to push for a higher bid. They know a sale will not be subject to capital gains if the profit is under the threshold and the other two conditions are met. That is good if you are a seller.
And now you know about capital gains tax when selling a primary residence. If you have any questions, ask your real estate agent or consult with your accountant.