Selling Your Home? What to Know About Capital Gains Taxes

Buying a home and selling it years later at a higher price can be financially rewarding, but the tax impact of that gain depends largely on timing and how the property was used.

If you sell your home within one year of purchasing it, any profit is considered a short-term capital gain and taxed as ordinary income. Depending on your tax bracket, this rate can be as high as 37%.

When Home Sale Gains May Be Excluded

Homeowners who meet the IRS definition of a principal residence may be able to exclude some or all of their capital gains from tax. To qualify, you must have owned and lived in the home for at least two of the five years prior to the sale.

The maximum exclusion is:

• $250,000 for single filers

• $500,000 for married couples filing jointly

In the event of a spouse’s death, the $500,000 exclusion may still be available to the surviving spouse if the sale occurs within two years, no remarriage has occurred, and all ownership and residency rules are met.

Multiple Homes and Residency Rules

Only one property can be treated as your principal residence at a time. The IRS applies the “two out of five years” test, meaning you must have lived in the home for at least 730 days during the five-year period before the sale. These days do not need to be consecutive.

For married couples claiming the full exclusion, both spouses must meet the residency requirement, even if only one spouse owns the home. Capital losses from other investments in the same year may also help offset taxable gains.

Keep in mind: the exclusion can only be used once every two years.

Investment Properties and Second Homes

Capital gains exclusions do not apply to rental or investment properties. However, gains from these sales may still be offset by capital losses elsewhere in the same tax year.

If you convert a second home or rental into your primary residence, you may qualify for a partial exclusion, but only for the period the property was used as your main home. Gains tied to rental or investment use generally remain taxable.

Using Installment Sales to Reduce Tax Impact

An installment sale can help manage tax liability by spreading payments and the associated gains over multiple years instead of receiving a lump sum. This approach may reduce your overall tax burden, though the holding period still determines whether gains are taxed as short- or long-term.

Final Thoughts

Real estate transactions can trigger complex tax consequences, especially when significant gains are involved. Working with a tax professional can help ensure your home sale is structured in the most tax-efficient way for your situation.