I Sold My House; Do I Owe Taxes?
A home is likely the largest purchase you will ever make. Selling a home can cause you to realize, quite possibly, the largest increase in wealth you will ever see in one fell swoop. Especially in the rising home value environment of the past four years, buyers are going out of their minds to pay well above the asking price for properties, causing the value of homes to skyrocket. If you bought your home a while back now, that means you have a hefty difference between the price you paid (basis) and the amount you can get if you sell (realized gain).
Let’s say in 2010; I purchased a little one-story ranch for $200k. Today, comparable homes in said neighborhood are going for well over $350k. Here’s how that gain looks
Seeing how much money you could have in the bank is tempting.
What about taxes, though? For as much as we lament paying taxes, section 121 of the Internal Revenue Code spells out an exclusion for a gain received from the sale of a primary residence. In fact, this exclusion is a substantial amount. The exclusion applies to anyone who has owned and used a property as their primary residence for two of the last five years. For singles, the exclusion amount is $250k, and for married folks, you get to double that to $500,000 – that’s ½ a million! Applying that to our example above.
That’s right, even though you realized a gain of $150,000 in your pocket (Of course, that’s if you have no mortgage to pay off), you recognized $0 of taxable gain. And no, you don’t get a credit for the difference. Ha!
The most beautiful part………You don’t even have to report it when you file your taxes. Nothing, nada, zip, zilch. There is no place on your Form 1040 or any other tax form where you have to report this. How about that for a tax perk?
To take it one step further, you can also include any realtor commissions or other costs that reduce your proceeds when calculating the gain.
Selling price – Commissions – Basis = Realized Gain - Exemption Amount = Recognized Gain
What if you have a bigger gain to report? Take this as an example:
In this case, you would report your gain on Schedule D as a capital gain. If you held the property long enough, this gain is taxed at the more friendly capital gains rates (0% if you are in the 10-12% tax bracket and 15% for almost everyone else). If you owe tax, you’d want to take 15% of the proceeds and make an estimated quarterly payment to keep on track. (We regularly guide clients through that) Otherwise, you could get to the end of the year and owe a big chunk of tax and pay a penalty for underpaying throughout the year.
Another Expense to Include
Maintain thorough records of all home improvements and expenses related to your home because these costs can increase your cost basis, reducing your taxable gain. I don’t mean changing the light bulbs from incandescent to LED (And boy, if you were an early adopter, you know how expensive that was), but if you remodeled the hall bathroom and spent some G’s, that improvement goes to increasing your basis, or investment, in your property. These costs further offset your gain. If you’re ever in doubt, consult a tax pro who can advise you on what can be counted and what is fluff.
What if I Didn’t Hold the Property Long Enough?
Some sellers can still get a prorated 121 exclusion if they don’t meet the qualifications because of “unforeseen” circumstances. These include:
Divorce or death of a spouse
Inability to pay your mortgage due to an employment change
A health condition that requires you to sell
Multiple birth pregnancy
Damage to your home from a hurricane
A job-related move more than fifty miles farther away
If you meet one of the unforeseen provisions, you will qualify for an exclusion proportional to the amount of time you lived in the house prior to the sale. For example, if you lived in your home for six months and were unexpectedly required to move because you were relocated to the Austin headquarters from the Los Angeles headquarters, you would get 25% of the total exclusion amount, or $62,500.
Guiding You in Your Decision
We’re here to guide you through the process of selling your house. We can also model different scenarios and show you how the sale of your home impacts your goals. If you need other trusted experts, we can connect you with our network of tax and real estate professionals. We do all that so you can make the decision that is best for you. Information like this empowers you towards a confident decision. We’d love to walk alongside you. Contact us today for an introductory call.
