How to avoid capital gains tax when selling property | finder.com
How to avoid capital gains tax when selling property

How to avoid capital gains tax when selling property

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Tips to minimize — or eliminate — your capital gains tax.

Selling your home is exhausting and expensive enough without the stress of surprise taxes and fees.

When putting your house on the market, taxes are inevitable. But there are few strategies that can help you hold on to more of your money.

As home prices continue to surge, here’s how to minimize how much you pay on your profits — also called a capital gains tax.

What is a capital gains tax?

A capital gains tax is a fee that you pay to the government when you sell your home, or something else of value, for more than you paid for it. For example, if you bought a house years ago at $200,000 and sold it for $300,000, you’d pay a percentage of your $100,000 profit — or capital gains — to the government.

When you make money from selling a house or property, your capital gains tax depends on whether you lived in the house and how long you lived there.

Short-term capital gains

In general, you’ll pay higher taxes on property you’ve owned for less than a year. This is because short-term capital gains are taxed at the same rate as ordinary income. In 2017, that rate is between 10% and 39.6% of your profit, but most people pay around 25%.

Long-term capital gains

With long-term capital gains, you get the benefit of a reduced tax rate that typically doesn’t exceed 20%. If you’re selling a residence or investment property you’ve held on to for at least a year, you’ve effectively lowered your capital gains tax.

Does the capital gains tax apply only to real estate?

No. The IRS can take capital gains tax on anything you sell that makes a profit, including car and other investments, like stocks and bonds. (Most retirement accounts, however, allow you to defer paying taxes on gains until you’re eligible to withdraw money.)

If the price has gone up since you purchased an asset and you plan to sell it, you’ll typically pay capital gains tax on the profit.

Is my primary residence exempt from capital gains tax?

Yes. The IRS allows you skim up to $250,000 off the profit of a primary residence when calculating capital gains tax. That amount jumps to $500,000, if you’re married.

You can typically take advantage of this exemption if you meet three requirements:

  • You’ve owned your home for at least two years in the five years before you’ve looked to sell it.
  • Your home was your primary residence for at least two years of that same five-year period.
  • You haven’t taken a capital gains exclusion for any other property sold at least two years before this current sale.

Staying in your home longer than two years might help you qualify for an exemption. Even if it takes three years to sell it after you move, you could still avoid capital gains tax if you lived in the home for at least two years.

How much will I have to pay?

Most taxpayers miscalculate their capital gains by simply subtracting the purchase price from the selling price. But under the tax code, “purchase price” and “selling price” are much more.

Your purchase price — or “cost basis” — is what you paid for the house or property plus all the taxes and fees you paid when you bought it, typically from 2% to 5% of the cost. You can also include money spent on projects that added value to the property, like that extra bathroom or garage improvements.

On the other end of your investment, your selling price is what you sell your property for minus any commission or closing fees you pay to sell it.

Let’s say that years ago you paid $200,000 for a house. At that time, you paid $8,000 in taxes and closing fees. Since then, you’ve made $30,000 in improvements. In this case, your cost basis is $238,000.

Original purchase pricePLUS taxes and fees at time of purchasePLUS added valueEQUALS cost basis
$200,000$8,000$30,000$238,000

You’ve now sold this home for $450,000. To calculate your taxable profit, you’d subtract your cost basis from the price you sold it for.

Selling priceLESS cost basisEQUALS taxable profit
$450,000$238,000$212,000

Your taxable profit on your recent sale is $212,000. And because you bought the home more than two years ago, you can walk away with your $212,000 tax-free.

How can I reduce capital gains tax on a property?

If your property isn’t exempt from the capital gains tax, here are a few strategies to minimize or reduce it.

Wait at least five years after you’ve bought a property to sell it.

To get around the capital gains tax, you need to live in your primary residence at least two of the five years before you sell it.

Say that you’ve lived in your home for 2.5 years and are now ready to move closer to your job. By renting out the property for another 2.5 years, you’d reach capital gains tax exemption. But be sure to keep your rental stint under three years: After three years, your home becomes an investment property.

Plan to sell a property after you’ve experienced capital losses.

If you’re going through a period in which you’re producing less income than usual, it could be a good time to sell a property. Because your tax rate factors in your income, you can take advantage of a reduced rate.

Let’s say that your spouse leaves her job to pursue studies. Prior to her resignation, your two-income household put you in a higher tax bracket that could mean a capital gains rate of 15%. With your drop in income, you’re now in a lower tax bracket — which means fewer taxes on any home sale during this period.

Track your home improvements or selling expenses.

Don’t miss out on claiming all value you added to your house while living there. Keep track of how much you spend on improvements and upgrades to your property, and reflect that amount in your ultimate cost basis. You’ll need records and receipts when submitting your taxes.

Turn your primary residence into a rental.

Renting your property can be a solid way to cover your mortgage while you live elsewhere. But to be exempt from the capital gains tax, you’ll need to limit how long you rent it. After three years, it’s considered an investment property.

Are there specific exemptions for investment property?

Yes. Investors can look to Tax Code Section 1031 to profit on business or investment properties without paying capital gains tax.

Section 1031 allows you to trade “like-kind” properties to avoid paying taxes on the initial profit. These like-kind properties must be similar: You can trade a retail space for another retail space, but you can’t trade a retail space for a rental property.

If the value of one property is greater than the other, you can add cash to the deal. The person who owns the property of lesser value can pay any difference at the time of sale.

Can I avoid the tax by moving into my investment property?

Yes. If you live in your property for at least two years, it changes the nature of your property from an investment property back to your primary residence. You’re then eligible for the capital gains tax exemption of up to $250,000 (or $500,000 if you’re married).

Say you live in New York City with your spouse. You decide to sell your place in the city, where you’ve lived for the past two years, and move into your vacation home upstate. Since your city apartment was your primary residence, you take your $500,000 profit tax-free.

Your move upstate doesn’t have to be permanent. If you want to ultimately move back to the city, stay in your vacation home at least two years. After two years, that property becomes your primary residence, and you can sell it and pocket another tax-free profit of up $500,000.

Bottom line

Homeownership often comes with the headache of ultimately selling your home. By knowing more about the intricacies of the capital gains tax, you could line up your sale to maximize the profits you make on your home or investment property. And save a big headache at tax time.

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34 Responses

  1. Default Gravatar
    KathyJune 20, 2018

    If I am excluded from paying capital gains on real estate do I have to report gain as regular income?

    • finder Customer Care
      nikkiangcoJune 20, 2018Staff

      Hi Kathy!

      Thanks for getting in touch with finder.

      In most cases, you do not have to pay tax on any profit you made from selling your main home. You can generally exclude this profit from your income if you owned your home and lived in it for at least 2 years out of the 5-year period leading up to the sale.

      To confirm, please refer to your local tax office or ask your tax accountant about this.

      Best regards,
      Nikki

  2. Default Gravatar
    PeteJune 18, 2018

    If I bought a piece of unimproved land to build a house on and decided not to build and sell it. Can I take the money from the property and put it toward the principal of my primary residence without paying taxes on the sale?

    • finder Customer Care
      JoshuaJune 19, 2018Staff

      Hi Pete,

      Thanks for getting in touch with finder. I hope all is well with you. :)

      Generally, you need to pay tax if you earned an income from the selling of your land. If you gained something, then you need to pay capital gains tax. But if not, you may not need to.

      Please be advised that while every effort is made to provide an accurate answer, we are not tax experts and we don’t provide tax advice, and you should always consult a tax professional about your unique circumstances.

      I hope this helps. Should you have further questions, please don’t hesitate to reach us out again.

      Have a wonderful day!

      Cheers,
      Joshua

  3. Default Gravatar
    TheresaJune 18, 2018

    I own an investment property in united states. I would like to sell it and but a similar property in spain instead and rent it. Can I avoid capital gains tax on the sale by buying a similar property in another country ir must the next property must also be in united states?

    • finder Customer Care
      JoshuaJune 19, 2018Staff

      Hi Theresa,

      Thanks for getting in touch with finder. I hope all is well with you. :)

      The property tax laws are different in the US and Spain and therefore, you might not be able to lower your CGT if you plan to buy a similar property in Spain.

      If you wish to lower your tax, you can turn your investment property into your primary residence. If you own your investment property for more than a year, then you should also have lowered your tax by now.

      I hope this helps. Should you have further questions, please don’t hesitate to reach us out again.

      Have a wonderful day!

      Cheers,
      Joshua

  4. Default Gravatar
    TashaJune 18, 2018

    We bought our townhouse in Oct 2007, lived there till May 2010. We then rented it out till Nov 2017. We now live here again. During this time we bought another house in Jan 2015 then sold that in Nov2017 . I want to sell my townhouse by end of this year. Am I going to have to pay cap gains?

    • finder Customer Care
      JoshuaJune 19, 2018Staff

      Hi Tasha,

      Thanks for getting in touch with finder. I hope all is well with you. :)

      You might not be exempted for CGT, but you can lower it. For example, make sure that the townhouse has been your primary residence for at least two years. You can also read other tips above.

      Moreover, to get a more personalized and direct answer, please get in touch with your local tax office.

      I hope this helps. Should you have further questions, please don’t hesitate to reach us out again.

      Have a wonderful day!

      Cheers,
      Joshua

  5. Default Gravatar
    BegoniaJune 14, 2018

    I and my partner have a house where we lived in the uk and a flat which we rent out but moved to spain a year ago and now we have decided to stayed on in spain and sell the house in the uk to reinvest and buy a new one in spain. Do we have to pay capital gains if this is still our home although we have been abroad for a year? Will spain tax any money on this sell of our uk house? thanks

    • finder Customer Care
      ArnoldJune 16, 2018Staff

      Hi Begonia,

      Thanks for your inquiry

      According to the UK Government, You pay Capital Gains Tax when you ‘dispose of’ overseas property if you’re resident in the UK. Although, there are special rules if you’re resident in the UK and your permanent home (‘domicile’) is abroad. You may also have to pay tax in the country you made the gain. If you’re taxed twice, you may be able to claim relief.

      Hope this information helps

      Cheers,
      Arnold

  6. Default Gravatar
    ErnieJune 12, 2018

    here is the ?
    complying with the 2018 (new tax law)
    I have lived in my primary residence for 25 continuous years.
    I move to another state and use my former primary residence ONLY as a secondary residence.
    How much time do I have to sell my former primary residence to avoid capital gain taxes?
    Is it 2 or 3 years from the date that I moved out of my former primary residence?
    thank you

    • finder Customer Care
      JoshuaJune 12, 2018Staff

      Hi Ernie,

      Thanks for getting in touch with finder. I hope all is well for you. :)

      To avoid capital gain taxes, you need to be living in your former primary residence for at least two years in the five years before you’ve looked to sell it. Moreover, you should also haven’t taken a capital gains exclusion for any other property sold at least two years before this current sale.
      Staying in your home longer than two years might help you qualify for an exemption. Even if it takes three years to sell it after you move, you could still avoid capital gains tax if you lived in the home for at least two years.

      I hope this helps. Should you have further questions, please don’t hesitate to reach us out again.

      Have a wonderful day!

      Cheers,
      Joshua

  7. Default Gravatar
    jackMay 28, 2018

    i have a property now that i have had a business at for the past 9 years i wanted to sell it and buy an investmeny property on the beach live there part of the time and rent it the rest of the year can i avoid capitol gains in any way

    • finder Customer Care
      JoshuaMay 29, 2018Staff

      Hi Jack,

      Thanks for getting in touch with finder. I hope all is well for you. :)

      You mentioned that you the property for 9 years already. For this reason, you can get the benefit of a reduced tax rate that typically doesn’t exceed 20%.

      Another way for you to reduce or avoid CGT is to live in your property for at least two years. This will change the nature of your property from an investment property back to your primary residence. You’re then eligible for the capital gains tax exemption of up to $250,000 (or $500,000 if you’re married).

      I hope this helps. Should you have further questions, please don’t hesitate to reach us out again.

      Have a wonderful day!

      Cheers,
      Joshua

  8. Default Gravatar
    jaytenMay 1, 2018

    As a retiree on Social Security and a small annuity (annual gross income under $24,000), I am currently in a low tax bracket. I plan to sell an empty lot that I’ve owned for 4.5 years. My profit will be about $55,000. Can I avoid paying capital gains by putting the proceeds into a retirement account and cashing out only a small amount every year?

    • finder Customer Care
      JeniMay 7, 2018Staff

      Hi Jayten,

      Thank you for getting in touch with finder.

      As a friendly reminder, while we do not represent any company we feature on our pages, we can offer you general advice. To verify this matter, I would advise you to contact the Social Security Administration (SSA) at 1-800-772-1213. This information is being provided from the “A-Z Index of U.S. Government Departments and Agencies” page.

      I hope this helps.

      Have a great day!

      Cheers,
      Jeni

  9. Default Gravatar
    NicoleApril 20, 2018

    I bought the house right before the crash. The house was my primary resident for 1 1/2 year than rented for about 9 years now. I am planning on selling the property. Do I qualify for long term capital gains?

    Thank you.

    • finder Customer Care
      JoshuaApril 21, 2018Staff

      Hi Nicole,

      Thanks for getting in touch with finder. :)

      Regarding your question, the answer is yes. With long-term capital gains, you get the benefit of a reduced tax rate that typically doesn’t exceed 20%. If you’re selling a residence or investment property you’ve held on to for at least a year, you’ve effectively lowered your capital gains tax.

      I hope this helps. Should you have further questions, please don’t hesitate to reach us out again.

      Have a wonderful day!

      Cheers,
      Joshua

  10. Default Gravatar
    PingApril 17, 2018

    Can you sell your investment property and then use the gains to buy a different investment property and avoid capital gains???

    • finder Customer Care
      JoshuaApril 23, 2018Staff

      Hi Ping,

      Thanks for getting in touch with finder.

      You may not be able to completely avoid capital gains tax when selling your investment property, but you can decrease it. For example, if you’re selling an investment property you’ve held on to for at least a year, you’ve effectively lowered your capital gains tax.

      If you’re going through a period in which you’re producing less income than usual, it could be a good time to sell a property. Because your tax rate factors in your income, you can take advantage of a reduced rate.

      You can also look to Tax Code Section 1031 to profit on business or investment properties without paying capital gains tax.

      Section 1031 allows you to trade “like-kind” properties to avoid paying taxes on the initial profit. These like-kind properties must be similar: You can trade a retail space for another retail space, but you can’t trade a retail space for a rental property.

      If the value of one property is greater than the other, you can add cash to the deal. The person who owns the property of lesser value can pay any difference at the time of sale.

      I hope this helps. Should you have further questions, please don’t hesitate to reach us out again.

      Have a wonderful day!

      Cheers,
      Joshua

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