There are many reasons why people choose to sell their home. Some may need to move because of a change of employment or a need to be closer to relatives. Certain sellers are looking to upgrade or downgrade to accommodate their needs as their family sizes change. Other people may just need a fresh start in a brand new location.
One thing that many sellers are concerned about is the money made from the sale of a home. It’s nice to have a fair amount of money that can be put towards the purchase of another home, retirement property, or other big-ticket items. However, the transaction may be subject to state or federal taxes.
Selling a home in California can take time. The entire process might not be completed for several weeks or months. There are different steps that need to be taken and various parties that will become involved along the way. You should still be able to successfully sell your property as long as you have a reasonable asking price, determination and a good plan of action.
Here are a few things to know about the income on home sales:
Most home sellers have to report the income made from the sale in the amount of their income that can be taxed. There are capital gains exclusions that could apply. They allow individuals to exclude up to $250,000 and married couples who file their taxes jointly up to $500,000 from the sale.
Capital Gains Exemption Rules
There are certain criteria that must be met before you can qualify for this exemption. You have to have owned the home that was sold for at least two years, and have claimed that house as your primary residence for the last two years.
The two-year period of residency has to have been in the last five years from the date that the property was sold.
Another rule for this deduction is that the homeowner can’t omit the income that they may have received from any other homes that they sold over the last two years. This period of time ends on the day that the particular home that you’re claiming the capital gains exclusion for was sold.
Married people or couples who file separate tax returns can still claim up to $250,000 of income from the sale of the home as long as the previously mentioned ownership and previous home sale exclusion criteria have been met.
How is your net income calculated?
To determine your income after selling your house, start with the price that you paid for the home. You can add any closing costs that you paid to that figure.
You can also include any real estate transaction fees that were paid and the costs that you incurred for any home improvements, such as remodeling the basement, adding new kitchen countertops or upgrading your appliances.
The total that you’ll arrive at after all of these expenses have been added up will be your cost basis.
You can then take the price that the home was sold for and subtract your cost base from it. That will give you the net income on the transaction.
If that amount is less than $500,000 if your taxes are filed jointly as a married couple or $250,000 if you are filing your taxes as an individual, you won’t have to pay any income tax on your proceeds from the sale.
Most home sales are long term capital gains. That’s because the asset has typically been owned for more than a year. Long term capital gains are taxed at 0%, 15% or 20%. Short term capital gains are assessed on sales of assets that were owned for less than a year.
Both long and short terms capital gains taxes are only on the federal level. There may still be certain local or state taxes that are charged, depending on where you live.
If you do have to pay taxes on the sale of your house, they will be due during the respective tax period. For instance, if you sold your home in June 2020, the taxes would be due by April 15, 2021. If your house was sold in March 2020, the taxes would be due by April 15, 2020.
Capital gains exclusions are generally invalid when the property sold was a retirement home or an investment property. The only real exception to the rule is if you lived in that home for at least two of the last five years. If you haven’t, any net income that you made from the sale would be taxable.
If you declared depreciation on the house that was sold, you may need to pay depreciation recapture tax for the transaction. Homeowners can depreciate property that they own to lower their total amount of rental income that can be taxed.
Depreciation recapture tax is assessed as one-fourth of the total depreciation amount that was deducted.
For example, if you owned an investment or retirement property and claimed $200,000 in depreciation on that home, you would be responsible for paying a depreciation recapture tax on that property of $50,000.
What if you incurred a loss?
If you have losses that offset any income that you received from selling your home, you may be able to avoid having to pay capital gains taxes.
If you sell an asset that underperformed or performed poorly on the market, you could sell that asset at a loss. This is a tactic known as tax harvesting, which helps to reduce your overall taxable income.
Another way to lower your taxable amount is a 1031 exchange. This is a process where you sell one investment property and then use the proceeds from that sale to purchase another investment property.
The cost basis that you had on the first property will be transferred over to the new property that you bought. It will also delay any capital gains tax responsibility until the new property has been sold.
You could perform this action as many times as you want and continue to defer your capital gains taxes until the final investment property has been sold.
Tax matters can be confusing and complicated at times. Don’t be afraid to ask your accountant or tax attorney for advice or assistance. Whatever you do, just make sure that you are honest and file your taxes properly every year.
Failure to do so can result in fines and other penalties. Once you’ve navigated through your tax responsibilities from the sale of your house, you can move on to the next phase of your life and start enjoying life in a new location.
📞 Have Questions? Ask The Chris Eckert Real Estate Team
Give The Chris Eckert Real Estate Team a call today at 650.627.3799 to learn more about local areas, discuss selling a house, or tour available homes for sale.