Capital Gains Tax When Selling Your Home: A Plain-English Guide
Selling your home can trigger capital gains tax, but most homeowners qualify for a significant exclusion that eliminates or greatly reduces what they owe. Here is what you need to know in plain language.
The Primary Residence Exclusion
Under Section 121 of the Internal Revenue Code, you can exclude up to $250,000 of capital gains from your income if you are single, or $500,000 if married filing jointly. This exclusion applies to the profit you make on the sale, not the sale price.
Do You Qualify?
To qualify, you must have owned and lived in the home as your primary residence for at least two of the five years before the sale. These two years do not need to be consecutive. If you meet this test, the exclusion applies regardless of your age or whether you are downsizing.
How Capital Gains Are Calculated
Capital gain equals your selling price minus your cost basis (what you originally paid plus capital improvements, minus depreciation if applicable). For example, if you bought a home for $200,000, made $50,000 in improvements, and sell for $450,000, your gain is $200,000. Under the $250,000/$500,000 exclusion, that entire gain would be tax-free for most homeowners.
What Counts as a Capital Improvement?
Improvements that add to your cost basis include new additions, major renovations, new roofing, HVAC replacement, kitchen and bathroom remodels, and similar capital expenses. Routine maintenance and repairs do not count.
When You May Owe Tax
If your gain exceeds the exclusion amount, or if you do not meet the two-year ownership and use test, you may owe capital gains tax. This is uncommon for long-term homeowners but can apply in certain situations. Consult a CPA for personalized advice.
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