As the real estate market begins to trend to the positive side, it’s a good time to review the tax requirements for selling a home, as well as any associated tax breaks. If you sell your primary residence (the one you lived in full time), there’s a chance the sale may be tax-free. However, any profit on the sale of a second or third home is taxed.
Tax Break for Primary Residence
Married couples who file together are able to receive tax-free up to $500,000 ($250,000 for single filers) of profits they make for selling their first home. Profits great than the threshold are taxed at long-term capital gains rates, which are 20% to 23.8% currently.
The tax break only applies to people selling their primary home, and doesn’t include home costs or improvements. It’s specifically applied to profits incurred from the sale. A married couple who purchased a $200,000 home and spent $50,000 on improvements would be able to sell for as much as $750,000 before they’d owe federal taxes, thanks to the $500,000 tax break.
Homeowners are able to claim the tax break every two years, as long as they’ve lived in the home they are selling for at least two years out of the last five. Homes that meet the eligibility requirements can be a duplex, a condo, a boat, or a mobile home, as long as it has standard plumbing, kitchen, and sleeping facilities.
Those who have been widowed in the past two years are able to claim the $500,000 exclusion as long as they sell the home within two years of their spouse’s passing.
Also, if the homeowner has been required to move due to change in employment, health related reason, or an unexpected circumstance such as death or divorce, but hasn’t met the two year provision, they may be eligible for an exclusion.
If you decide to use your vacation home as our primary residence, the rules become a little more complicated. The IRS will determine the amount of time you’ve spent in the property primarily, and prorate the credit amount you are entitled to.
Rental units that are part of the homeowner’s primary property, such as a basement or garage apartment, are not considered for the tax credit and only the percentage that is maintained specifically by the homeowner is eligible for the tax break.
2014 saw the IRS institute a new tax on net investment income for married couples with an AGI of $250,000 or greater ($200,000 for singles). The 3.8% tax will typically only take effect in more expensive markets, like Los Angeles as it related to the gains of the sales.
Any gains greater than the total cost of the home are only taxed at the amount of the benefit. It’s possible count capital loss against the gains, if eligible.