What is a primary residence capital gains tax exclusion? Let's find out.
Looking to sell a home in Southern California?
Looking to buy a home in Southern California?
Today I want to talk about how you can get your primary residence capital gains tax exclusion.
In order to understand what capital gains are, we first have to understand the tax basis. Your tax basis is the cost of buying, building, or improving a property.
Let's assume that you pay $500,000 for a property, $5,000 in closing costs, and about $45,000 in home improvements. Your tax basis is $550,000 for your new property.
If you sell the property later for $800,000, you will incur about $50,000 in sale commissions, transfer taxes, and other sales expenses. Subtracting your basis of $550,000, your capital gains would be $200,000. With the 15% capital gains tax rate we have right now, you would likely owe $30,000.
If this is your primary residence, though, you have what's called a primary residence exclusion. This means that a certain portion of the capital gain is excluded from the tax. Married couples filing jointly can exclude up to $500,000 while married couples filing tax returns separately can exclude $250,000. For our example, this means that the entire $200,000 would be excluded from tax and you would save at least $30,000 by using this exclusion.
Married couples filing jointly can exclude up to $500,000 while married couples filing tax returns separately can exclude $250,000.
Again, this is only applicable for your primary residence and can't be used for rental properties, investment properties, or vacation homes. You would have had to live in the property for two full years out of the last five full years. Of course, there are some limitations and exceptions so it is best to speak with your accountant about all of it.
There are some extra calculations that can apply if you convert a rental property into a primary home. How much you can exclude in this situation is based on the percentage of time that you lived in the home as your primary residence.
For example, if you rent out the home for three years and then you live there for three years as well, you can only exclude 50% of the gain. This is because you only lived there for 50% of the time that you owned the property and didn't live there initially. If you rent the home out after you lived in it, though, you do not need to worry about this calculation because you are eligible for the exemption
It is important to note that you can take this exemption every two years. This means that if you've gotten a lot of gains in your home, it may be worth considering moving now to be able to bump up your tax basis.
If you have any questions about this, or if you're looking to buy or sell, please feel free to reach out to me. I look forward to speaking with you soon.
