Is Real Estate Sale Profit Taxable? Here's What You Need to Know
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Selling a house often feels like a major financial win, especially when you walk away with a hefty profit. But before you start counting all that cash as pure gain, there is one important point to understand: The IRS may want a piece of it. In many cases, profits from the sale of a home are considered capital gains, and those may be taxable.
However, the federal government offers ways to sidestep some of this tax, provided you meet certain requirements. Let us find out how capital gains on home sales work and what you can do to avoid paying more than you absolutely have to.
What is Capital Gains Tax on a House Sale?
Capital gains tax is the fee you owe the government when you make a profit from selling a high-value asset like stocks, art, real estate and, yes, your house. The tax is only applicable to your gain and not the total amount of the sale.
The amount of tax to be paid depends on how long you owned the house. If you hold on to it for more than a year, it gets taxed as a long-term gain (at 0%, 15% or 20%, depending on your income). If you own it for less than a year, it is taxed as a short-term gain — typically at a much higher rate, matching your ordinary income tax bracket.
Who Gets to Skip the Tax?
The IRS offers an exclusion for people selling their primary residence — up to $250,000 of gain if you are single or $500,000 if married and filing jointly. But there are a few rules you must follow to claim this break. The rules are as follows:
It has to be your primary/principal residence. That means the asset should be the place where you actually live. You can show this by having the said address on your tax returns, voter registration and other documents.
You need to own the house for at least two of the past five years. You also must live in it as your main residence for at least two of those five years. Those years do not have to be back-to-back, but they need to add up.
You cannot have used this exclusion for another home in the last two years. This prevents people from hopping from house to house just to cash in on tax-free profits.
Your home cannot be part of a 1031 exchange (a real estate deal where one investment property is swapped for another), and you cannot be subject to the expatriate tax.
Can I Lower My Tax Bill in Other Ways?
Even if you do not meet all the criteria for the full capital gain exclusion, there are a few strategies that can help reduce what you owe.
Live in the home longer: Simply staying in the house for two years will help most sellers avoid higher short-term capital gains tax.
Look into partial exclusions: Life does not always follow IRS timelines. If you sell your home early because of a job move or an unexpected life event, you may still be able to exclude part of your gain. The IRS allows for prorated exclusions in certain cases.
Track your home improvements: The more you spend improving your home over the years, the higher your cost basis and the smaller your taxable gain will be. Keep records of projects like kitchen remodels, new roofing, and even the installation of a new fence.
Are People Over 55 Exempted?
A common myth is that anyone above age 55 gets an automatic break on home sale taxes. This used to be true prior to 1997, when older homeowners could claim a one-time $125,000 exclusion. But that rule no longer applies.
Bottom Line
Selling your home can generate a large profit, and while the IRS does consider it taxable income, many homeowners are eligible for exclusions to reduce their tax liability. The key is knowing the rules ahead of time.
If you are planning to sell and are unsure how the taxes will be imposed, it is worth checking with a tax professional. With some planning, you can keep more of your hard-earned home equity.