Selling your home is a big change. Maybe you’re selling because you need something bigger for your family. Maybe you’re ready to buy something smaller with little or no maintenance responsibilities, like a condo. Regardless of the reason, sale will impact more than your surroundings and life style.
Is a Gain Taxed or Not?
A federal tax law gives you, the seller, some significant tax savings on the sale of your home, if certain conditions are met. Essentially, you can sell your home for a large profit ($250,000 if you file singly, and $500,000 if you file jointly with your spouse) and you don’t have to report any of that gain as income on your federal tax return. So, how does this law work?
As with almost any sales transaction, there are federal tax implications with the sale of your home. And, the impact on your taxes can be significant and long-lasting, ranging from the tax, if any, on any gain you realize in the sale, to your ability to make various deductions, such as for mortgage interest. So, it’s to your advantage to have an understanding of how home sales and taxes go hand-in-hand.
To qualify for this favorable tax treatment, you must meet two tests:
- The Ownership Test, which requires that during the 5-year period ending on the date of the sale, you must have owned the home for at least 2 years, and
- The Use Test, which requires that during the 5-year period ending on the date of the sale, you must have lived in the home as your main residence for at least 2 years
What if you don’t meet those tests? You can still exclude some of the gain you realize from the sale, which the IRS calls “reduced maximum exclusion,” but only if you sold your home because of:
- Health reasons
- A change in place of employment
- Certain unforeseen circumstances, such as divorce and natural or man-made disasters that destroys or damages your home
The IRS has a worksheet to help you figure out the amount of your deduction.
Figuring Gain or Loss
To figure the gain or loss on the sale of your house, you need to know the:
- Selling price, which is the total amount you receive for your home, including money, mortgages, or debts assumed by the buyer.
- Amount realized, which is the selling price minus selling expenses, such as commissions, advertising fees, and legal fees.
- Adjusted basis, which is any increase or decrease (“adjustments”) in the home’s basis (the amount you paid for it). For example, if you paid closing costs when you bought the home, some of those expenses can be added to your basis. The IRS has a worksheet to help you figure the adjusted basis and more info on each topic to help you better understand your situation.
If you have a mortgage on the home you’re selling, you’re probably taking an income tax deduction for mortgage interest that you pay through out the year. If you’re buying another residence and taking another mortgage, you need to consider if your mortgage interest deduction will decrease, increase, or stay about the same. This can have a big impact on your taxes, because mortgage interest is usually the biggest deduction taken by most taxpayers. Moving Expenses
1. Moving Expenses
Sometimes, your moving expenses are deductible. If you moved due to a change in your job or business location, or because you started a new job or business, you may be able to deduct your reasonable moving expenses but not any expenses for meals. You can deduct your moving expenses if you meet all three of the following requirements:
- MEMBERS OF THE ARMED FORCES: If you are a member of the Armed Forces and your move was due to a military order and permanent change of station, you do not have to satisfy the distance or time tests. To view all information regarding military tax deductions – including spouse and dependents deductions, unreimbursed moving expenses and Services or reimbursements provided by government – read Publication 521 (2015), Moving Expenses – Members of the Armed Forces
- REPORTING MOVING EXPENSES: You cannot deduct any moving expenses covered by reimbursements from your employer that are excluded from your income. For more on deductible moving expenses see Publication 521, Moving Expenses.
2. Mortgage Forgiveness
If your home is being sold because the mortgage was foreclosed, the Mortgage Forgiveness Debt Relief Act of 2007 can give you significant tax savings. Usually, if a creditor forgives or cancels a debt, you have to include the amount that was forgiven as income on your federal tax return. Under the Act, however, you don’t have to include the amount of mortgage debt that was forgiven or cancelled.
To qualify, the forgiven or cancelled debt had to come from a loan that you used to buy, build, or substantially improve your principal residence, or to refinance debt that you incurred for those purposes. And, while you don’t include it as income, you still have to report the amount of debt forgiven on a special form, which has to be attached to your income tax return.
Questions for Your Attorney
Naturally, as with most federal tax matters, the tax issues related to the sale of your home can be complicated, so be certain to read the federal tax code, or get some advice from an experienced real estate attorney or CPA/tax professional.
1. Tax wise, is there a better time of the year to sell my home?
2. We’re selling our home as part of our divorce. How do we handle the sale on our tax returns?
3. If I sell my home for more than $250,000, isn’t there something I can do to protect excess amount from being taxed?
4. My house sits on 5 acres of land, and I’m ready to sell. Can I subdivide the land and structure the sale of the land to avoid taxes on the gain(s)