The real estate market in Central Texas is currently, to be frank, insane. This presents an enormous opportunity for existing homeowners to potentially sell their houses and reap the financial benefits of this housing boom.
But with this, as with all major financial decisions, it’s important to first understand the tax implications of the choice.
Fortunately, tax law is quite advantageous when it comes to treating gain on the sale of your home.
Section 121 of the Internal Revenue Code allows an exclusion of up to $250,000 of gain on the sale of a taxpayer’s principal residence. This benefit can be combined for a married couple for a total exclusion of $500,000.
In plain English, this means you don’t have to pay taxes on the profit of your sale if it’s less than 250k if you’re single and 500k if you’re married, as long as it’s your primary home.
As always when dealing with the IRS, there are some conditions:
This exclusion is for a principal residence, so it won’t include a vacation home or a house that is only used for a few months in the winter.
In order to take advantage of this provision, you must have used the house as your principal residence for at least two out of the previous five years as of the date of sale.
If, during any point of your ownership of the property, the house was used as other than your principal residence (including before that five-year period above), your gain on sale has to be prorated between the time you used it as your principal residence and the other uses (rental, vacation home, etc.) based on the amount of time it was used for each. Only the time it was used as a principal residence is eligible for the exclusion.
There is a multitude of other provisions covering potential exceptions to the requirement to use the home as a primary residence for two years in situations such as divorce, job transfer, and other unforeseen circumstances.
Each taxpayer is only permitted a gain exclusion under this provision every two years, although unforeseen circumstances will also potentially permit a partial exclusion.
When you calculate your gain on sale, keep in mind that you can add any permanent improvements that you made to the property to your original purchase price, thus lowering your total gain.
Your cost also includes any expenses of sale - primarily agent commissions. Gain is a net calculation and isn’t exclusively based on gross proceeds or contract price.
If you have any questions or need assistance determining how much gain you may be able to exclude, I highly recommend talking to a qualified tax adviser PRIOR to selling your home.
We can only stop a lot of surprises if we can influence your choices before you finalize them! When in doubt, ask questions - it’s what we tax accountants are for!