February 4, 2022


The sale of a home is usually the most significant financial transaction people make. In most cases, the value of the home increases during the time you live in it, so you can enjoy a nice profit when you sell. 

One slight drawback of your home appreciating when you sell is that it’s considered capital gains, which can be taxed. Just like when you pay taxes on income or when a business pays taxes on profits, the capital gains you enjoy when you make a profit from selling your house might be taxed too. 

The good news is most homeowners are exempt from this up to a certain amount. 

Here, we will get you up to speed on general real estate taxes and then take a deeper dive into the capital gains tax. Understanding what capital gains taxes are, why they exist, and how to calculate them will help you be informed about what selling a house costs.

How Do Real Estate Taxes Work?

How Do Real Estate Taxes Work?

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The word taxes might make you shiver a bit. Thinking of all the paperwork you need to scramble to file before spring each year can be scary. In addition, seeing all that money going from your checking account to the government can make you question why you are giving it up.

There are some excellent reasons. Taxes are essential so local and national governments can pay for public services. Why do you need public services? If you had a home but no roads to get to it, that wouldn’t be very convenient. Or, what if you had a house but no fire department to stop it from burning down?

To determine how much each person needs to pay in taxes, things like income and net worth all come into play. In addition, real estate plays a significant role. Essentially, the more your real estate property is worth, the more taxes you pay each year.

The value of your home must be determined to establish what your property taxes will be. To do this, a calculation of the cost basis must occur.

Calculating the Cost Basis and Adjusting It

Calculating the Cost Basis and Adjusting It

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Cost basis refers to the amount your property is worth regarding taxation. Upon the sale of your home, the profit (or loss) is calculated by taking your cost basis and subtracting that from the final sales price. To put it another way, it is the taxable value of your property when you bought it for the original purchase price. 

The typical equation for determining your cost basis starts with the amount you originally paid for the property. Next, you add the improvements and renovations you made to the property while you have lived there. Finally, you subtract the amount of depreciation that has occurred in addition to any insurance payments due to theft or casualty loss.

Other items that can increase your cost basis include legal fees spent on the home, real estate agent fees when you sell, tax credits for energy efficiency improvements, and funds you spent after suffering property damage or loss. 

So, as an example, let’s say you bought a home for $350,000 and sold it five years later for $450,000. While living there, you spent $25,000 upgrading the house, bringing your cost basis up to $375,000. You also collected $15,000 from your insurance company for a new roof after a tornado ripped it off. 

This brought your cost basis down to $360,000. To calculate how much profit you may owe taxes on when you sell, you would subtract your adjusted cost basis ($360,000) from the final sales price ($450,000). This means your profit gained would be $90,000. 

However, if you inherited the property when a relative passed away, the cost basis amount is the fair market value when they passed away. Remember that adjusted cost basis is just one of many calculations you will need to do when ready to sell your house. 

Reporting The Proceeds To The IRS

Reporting The Proceeds To The IRS

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When you are closing on the sale of your home, there may be a form you can sign that states you are not getting a taxable gain on your house. If you sign it, the closing representative may not send a 1099-S  form to the IRS, which reports to them the sale of your home. 

If you receive a 1099-S form from the IRS, you need to report the proceeds of your home sale. However, three requirements will allow you to exclude the profits on the sale of your home as income you need to report. You must meet all three of the criteria to qualify, and they are:

  • You have owned the property for at least two of the previous five years
  • You have lived on the property for at least two of the previous five years
  • You have not excluded the profit on the sale of any other home from income reporting for the previous two years

Keep in mind that if you sell your house and take a loss on it, you can’t take a deduction, as it is considered a personal loss. Talk about adding insult to injury, right?

What Is Capital Gains Tax?

You pay capital gains tax when you sell certain assets (including cars and houses) and get more than what you paid for them. Any profits you make on these assets need to be reported to the IRS when tax time comes around so they can be taxed appropriately.

Luckily there are ways to avoid capital gains tax. For example, many homeowners don't need to pay capital gains taxes if they sell their primary residence that they have owned and lived in for at least two years. As mentioned previously, you can exclude up to $250,000 of profit for an individual and $500,000 for a married couple. 

To avoid capital gains taxes, it’s essential to understand the rules, how it is calculated, and some possible ways to achieve capital gains exclusion. 

For example, the two-year rule has some wiggle room. You don’t need to prove that you lived in the home for two years consecutively. You could, for example, live in the house for the first 12 months you own it, leave and rent it out for two years, and then move back in for 12 more months to get capital gains exclusion before you sell. As long as you live in the house for two total years (24 months) over the time you own it, you don't need to report the capital gain when you sell it. 

We will get into more ways to avoid capital gains taxes later, but for now, let’s take a look at how you calculate them.

Calculating Capital Gains Tax

Once you know your adjusted cost basis, figuring the capital gains tax is just a matter of finding the correct percentage. Most capital gains taxes are levied at 20 percent of the profit. Using the example above, if your capital gain from your home sale is $90,000, you can expect the taxes to be $18,000. 

However, your actual capital gains tax rate depends on several factors. Your capital gains tax rate will depend on how long you owned the property, how long it was your primary residence and your income bracket. While the usual capital gains tax rate is 20 percent, there are situations where it can be higher, including:

Special Asset Classes For Long-Term Capital Gains Tax


Capital Gains Tax Rate

Stock Sale Involving a Small Business


Collectibles (i.e., art, trading cards, and antiques)


Previously Reported Depreciation


Calculations regarding capital gains taxes are always calculated using the period from when you originally purchased the asset and when you sold it. That determines whether it is a short-term or long-term capital gain, which influences the amount you might owe.

Short-Term Vs. Long-Term Capital Gains Tax

The first factor you need to look at before selling an asset like a home (that could create taxable income) is when you bought it. It would be treated as a short-term capital gain if it was less than a year ago. This means it will be taxed just like your ordinary income. 

If you purchased it more than a year ago, it’s considered a long-term capital gain. This means there will be some adjustments in your favor regarding how much you will need to pay in taxes. You may even find yourself avoiding capital gains tax entirely if it is your primary residence.

Here are the 2022 tax rates for short-term capital gains:

Short-Term Capital Gains Tax Rates

Tax Rate 

Single Person

Married Couple Filing Jointly (Or Surviving Spouses)

Married Couple Filing Separately

Head of The Household


$0 to $9,950

$0 to $19,900

$0 to $9,950

$0 to $14,200


$9,951 to $40,525

$19,901 to $81,050

$9,951 to $40,525

$14,201 to $54,200


$40,526 to $86,375

$81,051 to $172,750

$40,526 to $86,375

$54,201 to $86,350


$86,376 to $164,925

$172,751 to $329,850

$86,376 to $164,925

$86,351 to $164,900


$164,926 to $209,425

$329,851 to $418,850

$164,926 to $209,425

$164,901 to $209,400


$209,426 to $523,600

$418,851 to $628,300

$209,426 to $314,150

$209,401 to $523,600


$523,601 or more

$628,301 or more

$314,151 or more

$523,601 or more

When it comes to estates or trusts, the rules vary a bit. Here are the tax rates for those situations:

Short-Term Capital Gains for Estates or Trusts

Tax Rate 



$0 to $2,650


$2,650 to $9,550


$9,550 to $13,050


More Than $13,050

Again, your house is considered a short-term investment if you own it for less than a year before selling. This means the IRS counts any profits from the sale as part of your gross income, with no special considerations.


As you might imagine, this is important to note for people looking to buy a property, fix it up, and sell it right away (also known as house flipping). For example, let’s say a house flipper makes $100,000 from buying and selling a fixer-upper in under a year as a side job. They also make $100,000 a year from their day job, so they have doubled their annual income with the $100,000 they earned from the flip.

So, the IRS would consider their income for that year $200,000. It would be essential for them to keep track of all the expenses associated with the home flip to ensure that the profit amount they are taxed on is as low as possible.

Now let’s look at long long-term capital gains tax, which applies if you have owned a property for more than a year. There are three levels (brackets) for these taxes, and they are considerably lower than the short-term capital gains taxes.

Long-Term Capital Gains Tax Rates

Filing Status




Single Person

Up to $40,400

$40,401 to $445,850

More Than $445,850

Married Couple Filing Jointly (Or Surviving Spouses)

Up to $80,800

$80,801 to $501,600

More Than $501,600

Married Couple Filing Separately

Up to $40,400

$40,401 to $250,800

More Than $250,800

Head Of The Household

Up to $54,100

$54,101 to $473,750

More than $461,700


Up to $2700

$2,701 to $13,249

More than $13,250

Possible Exemptions From Capital Gains Tax

The ways you can avoid or offset capital gains are plentiful, so don’t let the numbers in the tables above scare you off from selling your home. Beyond the two-year primary residence exception we mentioned previously, here are more ways to avoid capital gains tax.

Home Office

Home Office

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More and more Americans are working from home, especially with the recent pandemic making it unsafe to work in crowded office buildings. This provides flexible work hours, eliminates the need for commuting, and can even mean more time with your family.

As a result, renovating or reorganizing the space in their houses to create a home office has become quite popular. Eliminating the drive from work and holding zoom meetings with sweatpants on aren't the only perks, though. Your home office can help when it comes to capital gains taxes as well.

Your home office does not get counted when you estimate the profit from selling your home. For capital gains tax purposes, the home office space is considered “tainted,” and the rest of the house is considered “untainted.” When the tax bill comes, the capital gains on the home sale will need to be adjusted proportionally between the tainted (business) and untainted (private) parts of the home. 

To figure out how much your home office will help when it comes to taxable gain, measure the square footage of your home office and multiply that by $5. Using this calculation, the maximum you can claim is 300 square feet, or $1,500. This will reduce your overall taxable income the year of your home sale.

Marriage And Divorce

Marriage And Divorce

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As previously mentioned, couples selling their home may exclude up to $500,000 in capital gains when selling their home. This assumes they have lived in the house and used it as their principal residence for two of the previous five years. 

If you haven't lived in the home for that period, you may still be able to get a tax break through a partial exclusion from capital gains. This can be done if you are selling due to a change in employment, a move based on a doctor’s recommendation, or a divorce. 

When it comes to divorce, things get a little trickier. No surprise there, right? If the couple stays officially married until the end of the calendar year when the house sells, they receive the capital gains exclusion up to $500,000. 

If they get divorced and one spouse decides to buy out the interest of their former spouse in the home, that $500,000 limit is lost. When the spouse who bought and stayed in the house decides to sell down the road, they can only avoid capital gains up to the $250,000 limit for single people. 

If a couple gets divorced and decides to co-own the home while only one of them lives in it, they get the $500,000 limit for the capital gain exemption, but they split it. When the house sells, each of the parties involved will be able to claim a capital gain exemption up to $250,000 for their partial ownership of the property.

Nursing Home Stays

When calculating the amount of time you have lived in a home to qualify for a capital gains tax exemption, nursing home stays do not count against your time in the home. After all, even though you have been living in a nursing home, the house you are selling was still considered your primary residence during that time.

So, for example, if you are selling the home of your aging parent for them and they have been in a nursing home for the last six years, they will still be exempt from capital gains tax on the home sale up to $250,000. 

Using the Second House as Principal Residence

Using the Second House as Principal Residence

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Suppose you are considering selling a second home. In that case, whether it is a vacation property or rental property, you won’t have the principal residence designation on it that helps you avoid capital gains taxes. However, you can change your principal residence anytime, so simply change it to the second home, and after two years, it will be exempt if you sell it. 

This means you will lose the principal residence exemption on your primary house, but you can change it back after you sell the second home. You will then need to wait at least two more years before selling your primary residence if you want to avoid capital gains taxes.

Using 1031 Exchanges

Let’s say you want to sell that vacation home or investment property but don't want to wait two years. Using a 1031 exchange might be a good solution if you don’t want to pay capital gains taxes on the sale. 

This process involves taking the proceeds of the sale and investing them in another property. This is essentially “kicking the can down the road,” so to speak, when it comes to paying capital gains. You avoid it for that sale, but it will be due when you sell the next property. This can be done indefinitely, though, so as long as you continue to invest the proceeds from selling investment properties into new investment properties, you won’t have to pay capital gains.

Installment Sales

When a property buyer makes payments to the seller over time instead of purchasing the home immediately with cash or a mortgage, it qualifies as an installment sale. This can have some capital gains tax benefits for the seller.

Installment sales allow the property seller to defer the tax on the proceeds from the deal over many years. You still need to pay capital gains taxes on the sale, but you won’t have to pay the total amount in the tax year the home was sold.


Whether you are selling your family home, a vacation home, or an investment property, you always want to get as much money out of the deal as possible. Understanding the tax implications of selling your home means keeping as much of the profit as you can.

When it comes to capital gains taxes, knowledge is power. Review the concepts we covered here, keep researching, and set yourself up for success when you sell your next property.

About the Author

As a native Washingtonian, Carlos Reyes’ journey in the real estate industry began more than 15 years ago when he started an online real estate company. Since then, he’s helped more than 700 individuals and families as a real estate broker achieve their real estate goals across Virginia, Maryland and Washington, DC.

Carlos now helps real estate agents grow their business by teaching business fundamentals, execution, and leadership.

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