{Disclaimer: The information provided below is for educational purposes only, not legal or tax advice. Please reach out to your own advisor for legal or tax implications of selling your home in California.}

 

Earlier this month, I met with my tax advisor and we were discussing the real estate market. I asked about capital gains taxes on real estate and if he had noticed any clients shying away from selling their properties to avoid the taxes. 

 

He shared with me that in the past couple of weeks, while he has been preparing taxes for clients, they shared that they sold their homes. Those clients were completely unaware of how much they owed in taxes on the sale of their homes. For some of his clients, he said it was quite a hefty tax (hundreds of thousands of dollars) and quite a shock. He wished they had come to him before they sold their homes, if nothing else, to be prepared and have a realistic understanding of how much money they were walking away with. 

 

His wish and my desire to keep you informed and prepared is why I am providing the information below. Now let’s get into the nuts and bolts of it.

 

Capital Gains Tax

If you profit from the sale of a home in California, then you may owe some amount of capital gains tax unless you qualify for an exclusion.

 

Capital gains are the profits made when you sell an appreciable asset, such as a house. For example, if you buy a home for $400,000 and sell it for $1,000,000, then you have a capital gain of $600,000.

In California, capital gains are taxed by both the state and federal governments.

On the state level, California’s Franchise Tax Board (FTB) taxes all capital gains as regular income. Depending on your tax bracket, the tax can be anywhere from 1-13%.

 

On the federal level, gains are either considered short-term or long-term.

  • Short-term capital gains are when you sell an asset within a year of purchasing it. Those gains are included in your ordinary income and taxed according to your tax bracket.
  • Long-term capital gains are any profits made from the sale of an asset after at least a full year of ownership. For a home sale, those gains are taxed according to the following table.


Source: IRS Topic Number 409

 

 

Capital Gains Tax Break

Both the IRS and FTB provide a capital gains tax break for home sellers who meet certain conditions. The maximum amount of capital gain that can be excluded is $250,000 for single filers or $500,000 for a married couple filing jointly. (Note: these exclusions started in 1997 when home prices were much different than they are today.)

According to IRS Publication 523, to qualify for the full exclusion amount, the following criteria must be met:

  • The home being sold is your primary residence.
  • You’ve owned the home for at least two years in the five-year period before selling it.
  • You’ve lived in the home for at least two years within the five-year period before selling it. The years you’ve lived in it don’t need to be consecutive. Certain exceptions to this rule are made for those who are disabled or those in the military, Foreign Service, intelligence community, or Peace Corps.
  • You didn’t acquire the home through a like-kind exchange (also known as a section 1031 exchange) within the last five years. This is basically when you swap one investment property for another.
  • You haven’t claimed the exclusion on another home in the last two years.
  • You aren’t subject to expatriate tax (a government fee paid by those who renounce their citizenship or take up residency in another country).

If you don’t quite check all of these boxes, you may still qualify for a partial exclusion of gain. This can happen if the main reason for your home sale is a change in workplace location, a health issue, or an unforeseeable event. As mentioned in the disclaimer, please contact a professional tax or legal advisor to learn more and how this all applies to you. For details on such circumstances, please refer to IRS Publication 523.

 

For information about the value of your home, selling your home, or the real estate market in your area, contact me at 949-444-1601 or leslie@theswanteamoc.com.