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Home selling can be a real hustle, time-consuming, and more often than not, emotionally challenging, but if it needs to be done, you’d be better off knowing beforehand how it is going to affect your taxes as well.
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First of all, if the selling price of your home is greater than the price you paid to purchase the home, then you have a profit which is generally considered a capital gain and subject to income tax.
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However, under certain circumstances, the law allows you to exclude all or part of that gain from your income.
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If you are eligible, the exclusion is up to $250,000 of the gain from your income ($500,000 on a joint return in most cases).
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To qualify for the exclusion you must meet both the ownership and use tests. This means that during the 5-year period ending on the date of the sale, you must have:
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- Owned the home for at least two years (the ownership test), and
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- Lived in the home as your main home for at least two years (the use test).
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Here is some more information that may be of interest to you.
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Usually, the home you live in most of the time is your main home and can be a house, houseboat, mobile home, cooperative apartment, or condominium.
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If you have more than one home, you can exclude a gain only from the sale of your main home. You must pay tax on the gain from selling any other home. If you have two homes and live in both of them, your main home is ordinarily the one you live in most of the time.
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You may be able to exclude gain from the sale of your home even if you have used it for business or to produce rental income if you meet the ownership and use tests.
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The required two years of ownership and use during the 5-year period ending on the date of the sale do not have to be continuous nor do they both have to occur at the same time.
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| You meet the tests if you can show that you owned and lived in the property as your main home for either 24 full months or 730 days during the 5-year period ending on the date of sale. |
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| You can meet the ownership and use tests during different 2-year periods. However, you must meet both tests during the 5-year period ending on the date of the sale. |
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If you and your spouse file a joint return and both meet the use test, you normally will be able to claim the exclusion for married couples even if the ownership test is met by only one of you.
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If you do not meet the two tests, you may still be allowed to exclude a reduced amount of the gain realized on the sale of your home. But you must have sold the home for other specific reasons such as serious health issues, a change in your place of employment, or certain unforeseen circumstances such as a divorce or legal separation, natural or man-made disasters resulting in a casualty to your home, or an involuntary conversion of your home.
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| If you can exclude all of the gain, you do not need to report the sale of your home on your tax return. |
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If you receive an informational income-reporting document such as Form 1099-S, Proceeds From Real Estate Transactions, you must report the sale of the home, even if the gain from the sale is excludable. Additionally, you must report the sale of the home if you cannot exclude all of your capital gain from income.
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| If you have a gain that cannot be excluded, it is, of course, taxable. You must report it on Form 1040, Schedule D, Capital Gains and Losses. |
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| Special rules may apply when you sell a home for which you received the first-time homebuyer credit. |
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Generally, you are not eligible for the exclusion if you excluded the gain from the sale of another home during the two-year period prior to the sale of your home.
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| To help you figure the adjusted basis of the home you sold, the gain (or loss) on the sale, and the gain that you can exclude, you can use the worksheets included in the IRS Publication 523, Selling Your Home. |
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| Unfortunately, you cannot deduct a loss from the sale of your main home. |
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| If you sold your home under a contract that provides for all or part of the selling price to be paid in a later year, you made an installment sale. |
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You are required to report gain on an installment sale under the installment method unless you "elect out" on or before the due date for filing your tax return (including extensions) for the year of the sale. You may "elect out" by reporting all the gain as income in the year of the sale on Form 4797 or on Form 1040 Schedule D and Form 8949. Installment method rules do not apply to sales that result in a loss.
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Your total gain on an installment method sale is generally the amount by which the selling price of the property you sold exceeds your adjusted basis in that property. The selling price includes the money and the fair market value of property you received for the sale of the property, any selling expenses paid by the buyer, and existing debt encumbering the property that the buyer assumes or takes subject to.
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Under the installment method, you include in income each year only part of the gain you receive, or are considered to have received.
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You report interest on an installment sale as ordinary income in the same manner as any other interest income. If the installment sales contract does not provide for adequate stated interest, part of the stated principal may be re-characterized as "imputed" interest, or as interest under the original issue discount rules, even if you have a loss. You must use the applicable federal rate (AFR) to figure the unstated interest on the sale. The rates are published monthly in the Internal Revenue Bulletins on IRS.gov.
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To make sure you comply with all requirements and take advantage of the exclusion that you are entitled to, help from a tax professional is always your best option.
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