How and Why You Owe Capital Gains on Real Estate Sales
The term "capital gains" can be confusing to some, especially those buying and selling real estate. But similar to stocks and bonds, when you sell a stock you owe taxes on the gain that stock provides. If you purchase the stock for $100 and sold it for $200 you need to pay taxes on that additional $100 you made from the sale of the stock. The same is true when selling property or real estate. However, if those gains are redistributed back into another property you may not owe as much if any of the gains from the sale of the property. You have a calculate capital gains on the sale of the real estate property.
Let's start with the purchase price of the home. For example, let's say you purchased a home for $300,000. You must add an any money you contributed to closing, let's say $5000 for a total of $305,000 paid for the property. The cost of the purchase would include any transfer fees, attorney fees, inspections, real estate commissions, and any money you spent fixing up your home prior to sale. You also want to include any cost of improvements over the years including room additions, although this does not include replacing anything that was already there such as appliances, furnaces or a new roof. Let's say over the course of your life in the home you've put in an additional $10,000. The total adjusted cost of the home is now $315,000.
Related: How to sell a home yourself
Now let's say you've sold the home for $400,000. Your capital gain on the home would be $85,000 in which you would need to pay taxes on. If you do not roll those gains into a new home purchase or qualify for an exemption, you will need to pay income tax on that $85,000.
There are some real estate exemptions for capital gains; "since 1997, up to $250,000 in capital gains ($500,000 for a married couple) on the sale of a home is exempt from taxation if you meet the following criteria:"
- The home has been your primary residence for two out of the last five years.
- You have not sold or exchanged another property during the two years preceding the sale.
- You meet with the IRS calls "unforeseen circumstances," such as a job loss, divorce, death or medical emergency.
It all depends on how much capital gains you are likely to get on the sale of the property.
Read more on how to get your home sold
If you've owned a home for two years or have lived in the house as your primary residence for two out of the five years, you may be exempt from paying capital gains taxes if you fall under the allotted amount. One interesting fact that many homeowners don't realize is that two years residency doesn't have to be consecutive. You've just had to have lived in your home for a total of 24 months out of five years prior to the sale in order to be excluded from capital gains taxes. For more information on your specific situation, feel free to contact me anytime. I would be happy to run some numbers for you and offer clarification on your situation. [Source]
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