Real Estate Capital Gains Tax Explained

A capital gains tax is a tax you pay on the profit you made from selling an asset. The tax paid covers the amount of profit - the capital gain - you made between the purchase price and sales price. In real estate, there are many factors that can decide if you have to pay capital gains tax and if so, how much. 

Real Estate Capital Gains Tax Question

I got a great question about real estate capital gains taxes from a viewer named Brett. Brett currently lives in Colorado and he purchased a home back in 1997 for $160,000. It's his primary residence, he and his wife live in that home, and they're now under contract to sell the home for $555,000 since they’re moving from Colorado to the Huntsville area. They want to hold back $50,000 of this gain to put towards the furnishings of their new home but they don’t want to have to pay taxes on it. Their question is, are they going to have to pay capital gains taxes?

I'm not an accountant, so make sure you double check with your tax accountant about this advice for your particular situation.

Real Estate Capital Gains Tax Explained

There's a couple of things that Brett will want to consider in this situation. 

1. The tax law states that you have to live in that home at least two to five years for it to be considered a non taxable event. That’s one of the factors the IRS takes into consideration.
2. The amount of gain from the sale is considered. If you’re single you can have a $250,000 tax free gain and up to $500,000 if you're a married couple.

Brett satisfies the first condition since he has lived there for more than two years, from living there in 1997 to selling the home in 2022. Brett bought his home for $160,000 and sold his home for $555,000 which is a $395,000 gain. Since he is married, that is less than the $500,000 allowable deduction so none of Brett’s from this sale should be taxed.

Let's say Brett was not married and files as single, his deduction would be $250,000. Everything above the $250,000, which would be $145,000, would be considered a taxable event for Brett. If Brett lived there for less than a year, then that entire amount, that entire gain would be taxable and not just the amount over $250,000. If he lived there between a year and less than two years, that would be considered what's called a short term capital gain which means he would pay a lesser tax rate on that gain.