You probably won't take a big capital gains tax hit if you sell your primary residence.Single taxpayers can exclude up to $250,000 in capital gains on the sale of their primary residences, or up to $500,000 if they're married and file a joint return, for the 2022 tax year.
This special tax treatment is known as the "Section 121 exclusion."
Key Takeaways
- You can exclude $250,000 or $500,000 of the capital gains you earn from a home sale, depending on your filing status and whether you meet certain criteria.
- In general, you have to own the home and live in it for two of the past five years to qualify for the exclusion.
- You can earn a partial exclusion if you experienced certain circ*mstances such as a job requiring you to move at least 50 miles away from your home.
How Does the Exclusion Work?
The Internal Revenue Service (IRS) requires that, to qualify for the exclusion, you must have owned your property for two of the last five years and lived in it as your main residence for at least two of the last five years preceding the sale date.
Suppose you've owned and lived in your house for three years. You sell it for $250,000, and your basis in the property is $205,000. You'll have a capital gain of $45,000.
Note
Capital gains tax is calculated on the difference between the sales price and your basis in the property, which the IRS defines as its purchase price plus the cost of any capital improvements you've made to it.
You should not have to pay any federal capital gains tax, because your $45,000 gain is significantly less than the $250,000 exclusion you're entitled to if you're a single taxpayer. Your capital gain is therefore tax-free.
Other Rules and Loopholes
The Section 121 exclusion isn’t a one-shot deal. You can effectively sell your residence every two years without owing any capital gains tax on the proceeds, as long as you live there and own it during that time. You just can't claim the exclusion any more often than once every two years if you're going to meet these rules.
Note
The rules state that both the residency term and the ownership term must occur within the last five years immediately preceding the sale of the home, but they don't have to be concurrent.
Several other factors can disqualify you, but they're relatively rare. For example, you can't have acquired the property through a like-kind 1031 exchange in the last five years, and you can't be subject to the expatriate tax.
Partial Exclusions
Some taxpayers who sell their residences before meeting the two-out-of-five-years rules might still qualify for a partial exclusion of their gains. The tax code allows taxpayers to exclude a portion of their capital gains if they must sell to relocate for work, because of health issues, or due to other unforeseen circ*mstances. The following examples could be eligible for a partial exclusion:
- The resulting sale of your home is work-related and not something you voluntarily elected to do if your employer transfers you to a position out of town after you’ve lived in your home for just one year. You won’t have to take a big tax hit, but you can’t use the entire $250,000 exclusion.
- You lived in your home for 50% of the required time if you were in residence for one year. You would therefore multiply 50% by $250,000. The result is that you can exclude a profit of up to $125,000. You would only pay capital gains on any proceeds exceeding this amount.
Note
Your new work location must be at least 50 miles more distant from your home than your old one was, to qualify for a partial exclusion under these rules.
Members of the military are completelyexempt from the two-year rule for up to 10 years if they’re required to move due to service commitments. They must be assigned to a duty station that's at least 50 miles from their home.
Reporting the Gain
You must still report the gain on your tax return, even if it's excluded from your income, if you receive a Form 1099-S. The IRS receives a copy of this informational return, too, so you have to let it know that you qualify to exclude the capital gain. You can do this by reporting the income and claiming the exclusion on your tax return.
Unfortunately, you can't deduct capital losses on the sale of personal property—including your home. Only losses on property used for a trade or business are deductible.
Frequently Asked Questions (FAQs)
How much is the capital gains tax on the sale of a primary residence?
If you don't meet the two-out-of-five-years requirement for the home sale exclusion, you'll pay capital gains taxes on the difference between the sale price and your basis. If you do meet the requirements for the exclusion, you'll pay capital gains taxes on capital gains that exceed the exclusion amount. The capital gains tax rate on the gain on sale of a home you've owned for more than a year can range from 0% to 20%, but most taxpayers pay 15% based on their taxable income. If you've owned the home for one year or less, you pay ordinary income tax rates that range up to 37%.
How long can you rent out a house if you want to claim the primary residence capital gains exemption?
There is no limit on how long you can rent out a house, but the two-year primary residence requirement must be met within the five years before the sale. That means that, in general, you can only rent out the home for three of the five years before the sale.
FAQs
More In Help. If you have a capital gain from the sale of your main home, you may qualify to exclude up to $250,000 of that gain from your income, or up to $500,000 of that gain if you file a joint return with your spouse.
Is there a capital gains exclusion on primary residence? ›
You can sell your primary residence and avoid paying capital gains taxes on the first $250,000 of your profits if your tax-filing status is single, and up to $500,000 if married and filing jointly. The exemption is only available once every two years. But it can, in effect, render the capital gains tax moot.
What is the IRS rule for primary residence? ›
For tax purposes, a principal residence is the dwelling that a person inhabits most of the time. It does not matter whether it is a house, apartment, trailer, or boat as long as it is where an individual, couple, or family lives most of the time. It is also referred to as a primary residence or main residence.
What is the 121 exclusion for home sales? ›
Section 121 allows for the exclusion of income up to $250,000 for an individual tax payer and $500,000 for a couple filing jointly. The exclusion is only for people who own and use a property as their primary residence for two of the five years before the sale.
What are the IRS rules for selling property to family members? ›
If you sell or trade to a relative a number pieces of property in a lump sum, you must figure the gain or loss separately for each piece of property. The gain on each item might be taxable. However, you cannot deduct the loss on any item.
How long do I have to buy another house to avoid capital gains? ›
You might be able to defer capital gains by buying another home. As long as you sell your first investment property and apply your profits to the purchase of a new investment property within 180 days, you can defer taxes.
What is the main residence exemption for capital gains tax? ›
As a general rule, main residence exemption disallows capital gains tax payable on the sale of the property you regard as your family home, which is known as your principal place of residence. This is because you don't generate an income from living in your own home.
Is there a way to avoid capital gains tax on the selling of a house? ›
Yes. Home sales can be tax free as long as the condition of the sale meets certain criteria: The seller must have owned the home and used it as their principal residence for two out of the last five years (up to the date of closing). The two years do not have to be consecutive to qualify.
Can the IRS force you to sell your primary residence? ›
Levying means that the IRS can confiscate and sell property to satisfy a tax debt. This property could include your car, boat, or real estate. The IRS may also levy assets such as your wages, bank accounts, Social Security benefits, and retirement income.
How do you calculate capital gains on sale of primary residence? ›
As with other assets such as stocks, capital gains on a home are equal to the difference between the sale price and the seller's basis. Your basis in your home is what you paid for it, plus closing costs and non-decorative investments you made in the property, like a new roof.
Whether you're 65 or 95, seniors must pay capital gains tax where it's due. This can be on the sale of real estate or other investments that have increased in value over their original purchase price, which is known as the “tax basis.”
How long do you have to reinvest money from sale of primary residence? ›
A: You can defer capital gains taxes by using a tax deferred exchange, which means that you reinvest the windfall from the sale into a replacement property. However, you need to act quickly. If you wait more than 180 days to reinvest, you will have to pay taxes on the proceeds.
Do you have to pay capital gains if you reinvest in another house? ›
You can avoid capital gains tax when you sell your primary residence by buying another house and using the 121 home sale exclusion. In addition, the 1031 like-kind exchange allows investors to defer taxes when they reinvest the proceeds from the sale of an investment property into another investment property.
Is capital gains exclusion on primary residence? ›
In simple terms, this capital gains tax exclusion enables homeowners who meet specific requirements to exclude up to $250,000 (or up to $500,000 for married couples filing jointly) of capital gains from the sale of their primary residence.
How does the IRS know if you sold a home? ›
Reporting the Sale
Report the sale or exchange of your main home on Form 8949, Sale and Other Dispositions of Capital Assets, if: You have a gain and do not qualify to exclude all of it, You have a gain and choose not to exclude it, or. You received a Form 1099-S.
Do you have to pay capital gains if you sell to a family member? ›
Do you have to pay capital gains taxes on a house you sell to family? Regardless of whether you sell your home to a family member or anyone else, it is unlikely you'll owe capital gains taxes.
What is a simple trick for avoiding capital gains tax on real estate investments? ›
Use a 1031 exchange for real estate
Internal Revenue Code section 1031 provides a way to defer the capital gains tax on the profit you make on the sale of a rental property by rolling the proceeds of the sale into a new property.
What is the 6 year rule for primary residence? ›
If you use your former home to produce income (for example, you rent it out or make it available for rent), you can choose to treat it as your main residence for up to 6 years after you stop living in it. This is sometimes called the '6-year rule'. You can choose when to stop the period covered by your choice.
Do you have to pay capital gains after age 70 if you? ›
Whether you're 65 or 95, seniors must pay capital gains tax where it's due. This can be on the sale of real estate or other investments that have increased in value over their original purchase price, which is known as the “tax basis.”
