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Will I Pay Tax On My Home Sale?

Capital Gain Tax Exclusion on Home Sale


Taxes on Home Sale

Will you pay tax when you sell your home?

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Will you pay tax on the sale of your home? Likely not, unless you have gains in excess of $250,000.

It used to be that once you reached the age of 55, you had the one time option of excluding up to $125,000 of gain on the sale of your home (your primary residence). That rule changed in 1997.

Now, anyone, regardless of age, can exclude $250,000 of gain ($500,000 for a married couple filing jointly) on the sale of their home. That means most people will pay no tax on the sale of their home, unless they haven't lived there very long.

To qualify for the tax exclusion on your home sale you must meet the following IRS requirements.

  • Owned the home for at least 2 years (the ownership test),
  • Lived in the home as your main home for at least 2 years (the use test), and
  • During the 2-year period ending on the date of sale, you did not exclude gain from the sale of another home.

You can use this capital gain exclusion to avoid tax on a home sale over and over.

One couple I know used this tax exclusion to accumulate retirement assets. He was a home builder and every two years, he bought land and built the family a new home. As soon as they moved into the new home, he would sell the old home, and use some of the tax free money from the sale of the home to begin building the next one.

Although moving every two years is not for everyone, it did allow them to accumulate assets tax free. Every two years he would use some of the tax-free gain to build the next home, and deposit some into his investment account.

The downside: during times where real estate depreciates, this strategy won’t work. You could get stuck holding two homes for several years until the market recovers.

You will pay taxes on a home sale on amounts of gain in excess of the excludable amount. This type of gain will be taxed at the capital gains tax rate.

If you’ve owned the home less than one year, any gain over the excludable amount will be taxed at a rate that will be the same as your ordinary income tax rate. If you’ve owned the home longer than one year, the capital gains tax rate will apply, which will likely be lower than your ordinary income tax rate.

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