If i sell my house do i pay capital gains

If you recently made a profit selling your home, it may come with a costly surprise this filing season: capital gains taxes on your windfall.

In 2021, the average U.S. home seller scored a profit of $94,092, up 71% from $55,000 two years ago, according to ATTOM, a nationwide property database.

While many sellers' profits fall under the capital gains thresholds for primary homes, others may get hit with an unexpected bill, particularly long-time property owners, experts say.

More from Advice and the Advisor:

• What happens if you don't disclose crypto activity to IRS
• Why asset allocation matters when it comes to taxes
• 3 key reasons to keep your will and estate plan updated

Home sales profits are considered capital gains, levied at federal rates of 0%, 15% or 20% in 2021, depending on taxable income.

The IRS offers a write-off for homeowners, allowing single filers to exclude up to $250,000 of profits and married couples filing together can subtract up to $500,000.

But these thresholds haven't changed since 1997, and median home sales prices have more than doubled over the past two decades, affecting many long-term homeowners. 

"It's become a huge part of the conversation now," said John Schultz, a CPA and partner at Genske, Mulder & Company in Ontario, California.

While the exemption may be significant for some homeowners, there are strict guidelines to qualify. Sellers must own and use the home as their primary residence for two of the five years preceding the sale.

"But the two years don't have to be consecutive," said Mary Geong, a Piedmont, California-based CPA and enrolled agent at the firm in her name.

Someone owning two homes may split time between the properties, and if their cumulative time living at one place equals at least two years, they may qualify.

Moreover, someone may convert a rental property to a primary residence for two years for a partial exclusion. In that case, the write-off is based on the percentage of their time spent living there, she explained.

For example, if a single filer owns a rental property for 10 years and lives there for two, they may be eligible for 20% of the $250,000 exclusion or $50,000.

"But you need good recordkeeping," Geong added.

Increasing basis

If homeowners exceed the exemptions and owe taxes, they may reduce profits by adding certain home improvements to the original purchase price, known as basis, Schultz explained.

For example, home additions, patios, landscaping, swimming pools, new systems and more may qualify as improvements, according to the IRS. 

However, ongoing repairs and maintenance expenses that don't add value or prolong the home's life, such as painting or fixing leaks, won't count. 

VIDEO2:0102:01

IRS encourages taxpayers to file early this year

Advice and the Advisor

Of course, homeowners need to show proof of improvements, which can be difficult after many years. However, if someone lost receipts, there may be other methods.

"Property tax history can help you go back and recalculate some of that," Schultz pointed out, explaining how reasonable estimates may be acceptable. 

Homeowners may also increase basis by adding certain closing costs, such as title, legal or surveying fees, along with title insurance.

Sneaky tax consequences

There's also the possibility of other tax consequences when selling a home with a large profit.

For example, boosting adjusted gross income can affect eligibility for health insurance subsidies, and may require someone to pay back premium credits at tax time.

And retirees' increasing income may trigger higher future payments for Medicare Part B and Part D premiums.

"If you're selling any asset of significance, you should be talking to some type of advisor," Schultz said.

A financial advisor or tax professional can project possible outcomes depending on someone's complete situation to help them pick the best move.

When you start to think about selling a capital asset for a gain or a loss, the first thing you need to ask yourself is “When did I buy this?” Capital gains and losses can be short- and long-term, and it’s important to understand the difference between the two.

If you purchased the capital asset less than a year ago, you’re dealing with a short-term capital gain or loss, and it will be treated as ordinary income. If the purchase took place more than a year ago, that’s a long-term capital gain, which will be given preferential tax treatment, and – if it’s your primary residence – may even be exempted.

However, there are exceptions for property that is a gift or an inheritance.

Short-Term Capital Gains Tax

If you’ve made the determination based on the rules mentioned above that short-term capital gains tax applies in your situation, the profit is taxed at regular income tax rates.

Short-Term Capital Gains Tax Rates For 2022

For the 2022 tax year, these rates are as follows:

Tax Rate

Single

Married Filing Jointly and Surviving Spouses

Married Filing Separately

Head of Household

10%

$0 – $10,275

$0 – $20,550

$0 – $10,275

$0 – $14,650

12%

$10,276 – $41,775

$20,551 – $83,550

$10,276 – $41,775

$14,651 – $55,900

22%

$41,776 – $89,075

$83,551 – $178,150

$41,776 – $89,075

$55,901 – $89,050

24%

$89,076 – $170,050

$178,151 – $340,100

$89,076 – $170,050

$89,051 – $170,050

32%

$170,051 – $215,950

$340,101 – $431,900

$170,051 – $215,950

$170,051 – $215,950

35%

$215,951 – $539,900

$431,901 – $647,850

$215,951 – $539,900

$215,951 – $539,900

37%

$539,900 or more

$647,850 or more

$539,900 or more

$539,900 or more

Short-Term Capital Gains Tax For Estates Or Trusts

Tax rates work slightly differently if you happen to be declaring a short-term capital gain sold by an estate or trust.

35%

Your home is considered a short-term investment if you own it for less than a year before you sell it. There are no special tax considerations for capital gains made on short-term investments. Instead, the government counts any gain you made on the home as part of your standard income.

This can present a major problem for short-term buyers like house flippers. For example, let’s say you earn a profit of $50,000 from flipping a home within 1 year. Let’s also say that you earn an annual salary of $50,000 from your regular job.

Under these circumstances, the $50,000 you earned from the sale of your home essentially doubles your income. When you file your federal taxes, the Internal Revenue Service (IRS) would consider your gross income for that year to be $100,000 and you’d be subject to the same tax rate as an executive that earns $100,000 at your company.

You can minimize your tax burdens with short-term sales by carefully accounting for all of your expenses and deductions.

Long-Term Capital Gains Tax

Owning your home for more than a year means you pay the long-term capital gains tax. After 2 years, you’ll qualify for the personal exemption – more on that below. Unlike the seven short-term federal tax brackets, there are only three capital gains tax brackets.

The long-term capital gains tax rates are much lower than the corresponding tax rates for standard income. You may not need to pay the tax at all if you make less than the minimum amount listed below.

Long-Term Capital Gains Tax Rates For 2022

The percentage you pay on your capital gains depends on your filing status and how much money you made last year.