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When you sell a home for more than you paid for it, the profit you make is considered a capital gain. Capital gains from a home sale are taxable, and the tax you pay depends on how long you've owned the house, how long you lived there, your tax filing status and income. Here's a quick overview of how capital gains taxes work when you sell your home.
How Does Capital Gains Tax Work on a Home Sale?
The IRS taxes capital gains on many types of investments, including stocks, mutual funds, real property and even cryptocurrency. Capital gains taxes are split into two categories: short-term and long-term.
Short-term capital gains tax rates apply if you've owned your home for less than a year. Short-term capital gains are taxed as ordinary income with rates calculated based on your filing status and income:
| Short-Term Capital Gains Rates for 2022 | ||||
|---|---|---|---|---|
| Tax Rate | Unmarried | Head of Household | Married Filing Separately | Married Filing Jointly |
| 10% | $0 - $10,275 | $0 - $14,650 | $0 - $10,275 | $0 - $20,550 |
| 12% | $10,276 - $41,775 | $14,651 - $55,900 | $10,276 - $41,775 | $20,551 - $83,550 |
| 22% | $41,776 - $89,075 | $55,901 - $89,050 | $41,776 - $89,075 | $83,551 - $178,150 |
| 24% | $89,076 - $170,050 | $89,051 - $170,050 | $89,076 - $170,050 | $178,151 - $340,100 |
| 32% | $170,051 - $215,950 | $170,051 - $215,950 | $170,051 - $215,950 | $340,101 - $431,900 |
| 35% | $215,951 - $539,900 | $215,951 - $539,900 | $215,951 - $323,925 | $431,901 - $647,850 |
| 37% | $539,901 or more | $539,901 or more | $323,926 or more | $647,851 or more |
Source: IRS
Long-term capital gains taxes apply if you've owned your home for more than a year. These rates are typically lower than ordinary income tax rates. They break down as follows:
| Long-Term Capital Gains Rates for 2022 | ||||
|---|---|---|---|---|
| Single | Married Filing Jointly | Married Filing Separately | Head of Household | |
| 0% | $0 - $41,675 | $0 - $83,350 | $0 - $41,675 | $0 - $55,800 |
| 15% | $41,676 - $459,750 | $83,351 - $517,200 | $41,676 - $258,600 | $55,801 - $488,500 |
| 20% | $459,751 or more | $517,201 or more | $258,601 or more | $488,501 or more |
Source: IRS
Other Factors That Affect Your Capital Gains Taxes
Short-term vs. long-term capital gains tax rates can make a big difference in how much you'll owe when you sell your home at a profit, but few additional factors also play a role:
You can exclude up to $500,000 for a primary residence. This tax break is a big one. Married taxpayers filing jointly can exclude up to $500,000 of capital gains on a home sale ($250,000 for single taxpayers) if the home qualifies as a primary residence. What does it take to qualify?
- Two years of residency: You must have used the home as your primary residence for at least two of the past five years. The two years (or 730 days) do not have to be consecutive to count.
- Only one exclusion in two years: You can only use the primary residence exclusion once in a two-year period. If you sold another residence last year and took advantage of the exclusion, you cannot use it again this year.
You can add some closing costs and home improvement expenses to your cost basis. Doing so can reduce your capital gain. Examples include title insurance, recording fees, kitchen modernization, landscaping, flooring and a new roof. See full details from the IRS.
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How to Calculate Your Capital Gains Tax on a Home Sale
Your capital gain is the sale amount minus your basis, or what you paid. Here's a simple example: You bought your home for $200,000 and sold it for $550,000. Your capital gain is $350,000.
Let's say you're a single taxpayer with an annual income of $70,000. If the home was your primary residence for at least two of the past five years, you can exclude $250,000 of your capital gain from your income taxes. This means your total taxable gain is $100,000.
Because you owned your home for more than a year, long-term capital gains rates apply. Your income falls between $41,676 and $459,750, so you'll pay 15% of $100,000, or $15,000 on the sale of your home.
What if You Don't Qualify for the Residence Exclusion?
If you've owned your home for less than a year, you aren't eligible for the primary residence exclusion. In this case, your short-term capital gain would be $350,000, which is taxed as ordinary income. Added to your regular income of $70,000, your taxable income becomes $420,000.
Using the short-term capital gains tax rates shown above, the tax bill on your home sale would be $109,736. Holding on to your home for at least a year would convert this to a long-term capital gain and reduce your capital gains tax bill to $52,500, or 15% of your profit.
How to Avoid Capital Gains Tax on a Home Sale
Though you can't avoid confronting your tax bill after you've sold your home for a capital gain, you may be able to reduce your tax liability—or eliminate it altogether—by considering this advice:
Own Your Home for at Least a Year
Long-term capital gains taxes aren't as punishing as short-term rates, especially if you've realized a major gain.
Live in Your Home for at Least Two Years
Being able to exclude $250,000 or $500,000 of your capital gain will certainly reduce—and may wipe out—your taxable gains.
Check for Partial Eligibility
If you don't qualify for the primary residence exclusion, check IRS Publication 523 to see if you qualify for a partial exclusion. Qualifications include moving to accommodate your work, health or unforeseen circumstances like a natural disaster.
Adjust Your Cost Basis
Keep records of your home purchase and sale, as well as receipts and credit card statements for home repairs and improvements.
Pass Along a Tax Break to Your Heirs
Your home is reassessed when it passes to your heirs: Their cost basis is your home's value on the day you die. If your home has appreciated in value over the years, bringing its cost basis up to current values will reduce capital gains if your heirs decide to sell.
Plan Ahead to Save on Taxes
Selling a home is a major transaction. And in a rising real estate market, you could turn a tidy profit on your sale. By planning ahead, you can take advantage of primary residence exclusions and more favorable long-term capital gains tax rates to save yourself some money—and have more to devote to your next home purchase.
If you plan on buying another house, it's important to make sure your credit is in great shape. Good credit can help reduce the interest rate you'll pay on your new loan. You can check your credit report and credit score for free through Experian.