The 2018 income tax reform bill offers a lot of changes for taxpayers. Many are debating the pros versus cons of tax reform. The primary goal of the reform appears to be to help the American taxpayers and further stimulate the economy. One potential area of concern in both tax reform proposals is the capital gains tax on the sale of real estate. While we are not representing this as tax advice or that we are tax professionals, we want to share types of questions or topics that sellers, Realtors, Certifed Public Accountants (CPAs), and mortgage professionals should discuss. Plus, this discussion should take place before listing a home for sale.
2017 Capital Gains Tax Exclusion on Sale of Home
Per the IRS topic number 701 – Sale of your home, “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. You may qualify to exclude up to $500,000 of that gain if you file a joint return with your spouse.” Sounds pretty good, doesn’t it? So, how do you get this capital gains tax exclusion? To qualify in 2017, the seller of the home must have owned and used the home as the primary home for two of the last five years of ownership.
This may only be done once every two years, and there are other potential exceptions for military, government housing, or installment sales. It is always important to ask your tax professional to see if you qualify for this exclusion. This has been a very popular way for homeowners or flippers to buy, occupy two years, sell for a profit, and not pay income taxes on the profit. The profits are not even required to be put down on another property to avoid this tax. So, what is the rule on capital gains tax for 2018?
Will I Pay Income Taxes If I Sell My Home in 2018?
We have good news! Although both the Senate and House versions called for increasing the timeframe for exclusion of taxation to five out of the last eight years, the final negotiated version kept it at the last two of five years.
Should I Sell My House and Pay the Tax?
Let’s say, a homeowner does own a home less than two years and wants to sell for a profit. First of all, if you are paying a capital gains tax, congratulations! You made a profit on your home after all expenses and hopefully enjoyed the home during this period. The key points are “profit” and “all expenses.” You made a profit, and you need to remember to calculate the allowed expenses to lower your tax burden. Items such as Realtor commissions, seller closing costs, seller paid costs for the buyer, and certain improvements made to the home could reduce the taxable profit. This is a scenario where having a relationship with a CPA comes in handy. In addition to the CPA, keep receipts for everything to do with the home. It could be a write-off when you do sell the home.
Buying a Home After Selling
There are reasons to consider a sale before two years. Here are a few examples of reasons to sell the current home even if the profit will be taxed:
- The perfect house came available
- Family size has increased
- Divorce or separation
- Changing school districts
- Job relocation
- Tired of current house
- Shorter commute to work
- You have a chance to make a profit
There are many other reasons to sell, pay a potential tax, and purchase another home. The homeowner needs to weigh the pros versus the tax as well as have a thorough discussion with an experienced Realtor.
Capital Gains Affect on Military Sellers
Military families are on the move quite often which means buying and selling often. Service members receive their permanent change of duty station orders (PCS) and usually that means moving the family. Living in a home two out of the last five years isn’t so tough. A huge benefit for military sellers is that they can typically purchase the next home with no money down. This is accomplished through a VA home loan. Since a down payment may not be required, and it is customary (not required) for the seller to pay the service member’s closing expenses, having the whole profit isn’t as important. Therefore, any profit made on the home could be used for investing, paying debts, or a down payment on a new home. There are also ways that military may be exempt from this tax rule, so ask a CPA.
What if Military Buyers Sell in Less Than Two Years and There is No Profit?
If there is no profit, there will be no capital gains tax to pay. Keep in mind that just because the sales price is higher than the original purchase price, that doesn’t mean there is a taxable profit. There are ways to lower that profit or even get rid of the whole thing. This is another one of those moments where it helps to have a great CPA who can provide solid tax advice.
Prepare for Listing Your House for Sale
If a seller is going to depend on a Realtor or tax professional to provide solid advice on selling, it is important to keep documentation organized and safe. Examples of items to keep for an eventual sale include:
- Settlement statement or closing disclosure from purchase
- Closing disclosure from recent refinance
- Receipts for all home improvements
- Warranties for appliances and other fixtures
- Paint, tile, hardwood samples & names to match later
- Lease contract(s) on the home over last eight years
Great Opportunities in Real Estate
Hopefully, this article has provided a better understanding of the capital gains home exclusion. It should help homeowners better prepare for a potential sale. Luckily, the real estate industry dodged a bullet by keeping the two of the last five years exclusion in place. Plus, more and more families are looking to buy and become homeowners.
There is certainly the opportunity for a lot of upside in real estate. Just remember to involve professionals in your decision. The worst-case scenario would be to be uninformed and find out next tax season that a large, unexpected tax bill is due (especially if all proceeds from the previous sale were spent). No one has a crystal ball, but it helps to speak to experts, gather information, and make an informed decision. If you are a seller looking to buy, and you are concerned about your scenario, contact us to discuss.
**This article is not tax advice. Always seek tax advice from a licensed tax professional or certified public accountant.