This is a guest post written by Andrea B, of Round Rock Real Estate in Austin, TX.
A Study of the Tax Implications of Selling Property
Selling your home or investment property can be an exciting experience, and there are plenty of numbers to keep in mind. From principal and interest payments to closing costs and moving expenses, the effect that selling your current home (and purchasing a new home) can have on your budget can be enough to make your head spin, but it’s also important to keep the tax requirements of making a sale in mind. In typical tax code fashion, the tax implications of selling your home can be difficult to comprehend, especially if you’ve never sold a home before, so it’s always a good idea to consult with real estate and tax professionals before listing your property. While there are plenty of ways to go about selling a piece of property, it is important to study all of your options before putting your home or property on the market. By following specific tax guidelines, you could be in line for some major savings when the time comes to file your annual return.
If the property you’re looking to sell has been your primary residence for at least two of the previous five years, federal tax law allows for a tax exclusion on the capital gains from the sale in many cases.
According to Fox Business, you are allowed to shelter up to $250,000 of profit if you’re single (or up to $500,000 if you’re married) when selling your primary residence. If you’ve lived in your home for at least two years and haven’t gone through the sale of another primary residence within the past two years in which you excluded gains, you can, most likely, exclude your capital gains from your annual tax return completely. If you have gains above the exclusion levels, the excess gains are subject to taxation, but any losses on the sale are not deductible. Be sure to consult with your tax professional in order to minimize taxable gains on the sale of your property.
Though you may able to exclude the sale of your primary residence, additional capital gains exceeding the exclusion level are still subject to taxation. Make sure you include every possible cost from the purchase of your home to minimize reported gains.
Capital gains that exceed exclusion ceilings need to be reported on form 1040, Schedule D, Capital Gains and Losses, so it is in your best interest to add all available expenses to the original cost of your home in order to minimize reported gains. If you’ve kept great records, the closing costs from the original purchase of your home, as well as from any refinancing or equity line loans you’ve secured, are one source of added costs that can be deducted from your sales gains. Capital improvements to the residence, including a new roof, windows and landscaping, are also applicable expenses. Selling expenses including realtor’s commission, closing costs and other agreed upon costs in the sales contract are also deductible.
Investment properties require more finesse in order to avoid excess taxation. In many cases, efforts to quickly flip property can result in taxation at two levels that can seriously impact your potential profits.
With the growing popularity of flipping real estate, tax laws were molded to keep an eye on short term investors. According to Bankrate, tax rates depend on how long you own a piece of property. While long-term investments are rewarded by federal tax laws, holding assets for less than a year could cost you. If you sell an investment property after holding it for a year or less, you’re likely to face short-term gains, which are taxed at rates as high as 35 percent. In addition, the IRS has been known to recognize multiple real estate transaction in a short period as a business practice instead of an investment strategy. In this case, you’ll have no escape from paying escalated income tax rates.
If an immediate sale isn’t necessary, consider alternative tactics to keep your tax bill minimized. Moving into the investment property for a few years or completing a Section 1031 exchange are worthy of consideration if you’ve got time to wait.
If possible, it’s always a good idea to look at alternative ways to limit your tax burden. Converting an investment property into a primary residence can be accomplished in two years and, potentially, eliminate your tax bill. On the flip side, 1031 exchanges could be a great idea if you plan to continue investing in property following the sale of your current investment. In any case, be sure to consult with your real estate and tax professionals in order to maximize your tax savings.