Here’s how to lower your tax bill after selling a profitable home
Despite the cooling market, many homeowners made money selling their property in 2022 — and part of that windfall may be taxable.
Home sellers made a $112,000 profit on the typical sale in 2022, a 21% increase from 2021, and a 78% jump from two years ago, according to ATTOM, a nationwide property database.
While most sellers fall under the thresholds for capital gains taxes, high-dollar home sales or long-term ownership can trigger an unexpected bill, experts say.
Here’s how it works: Home sales profits are considered capital gains, with federal tax rates of 0%, 15% or 20%, depending on your 2022 taxable income. (You calculate “taxable income” by subtracting the greater of the standard or itemized deductions from your adjusted gross income.)
As a single home seller, you can exclude up to $250,000 of your profit from capital gains taxes and you can shield up to $500,000 as a married couple filing together, assuming you meet certain IRS rules.
However, you may owe capital gains taxes if your home profit exceeds those thresholds.
“It can be a pretty sizable tax burden for people who are not aware of it,” especially those with a lot of appreciation and embedded gains, said certified financial planner Anjali Jariwala, founder of FIT Advisors in Redondo Beach, California. She is also a certified public accountant.
How to qualify for $250,000 or $500,000 exemptions
Most sellers’ profits fall under the $250,000 or $500,000 capital gains exemptions, but there are specific rules to qualify, said Mark Steber, Jackson Hewitt’s chief tax information officer.
The first rule: You must meet the “ownership test,” he explained, which requires that you’ve owned the property for at least two of the last five years before the sale.
There’s also a “residence test” that says the home must have been your “primary principal residence” for at least two of the past five years. But “it doesn’t have to be continuous,” Steber said.
“You get this break as many times as you want,” he said, as long as it’s been at least two years since the last time you claimed the exemption.
The IRS does have some exceptions to the eligibility tests, including specific guidance for cases of separation or divorce, widowed taxpayers, service members and more, outlined here.
Increase your home’s ‘basis’ to reduce tax liability
Many home sellers don’t realize there’s potential to reduce profits — and possibly lower capital gains — by increasing their property’s purchase price, known as “basis,” according to Jariwala.
“Your purchase price of the home is the starting point for your basis,” she said, explaining you can tack on the cost of “capital improvements.”
“If someone has had their home for 10 years and they’re selling it, they may have forgotten improvements they’ve made,” such as replacing the roof or putting in new floors, Jariwala said.
It’s really important to make sure you are keeping documentation of all the things you’ve…
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