How to Lower Your Capital Gains Tax Bill After Selling a Home

Despite a slump in U.S. home sales, many homeowners made a profit selling property in 2023. Those gains could trigger a tax bill this season, depending on the size of the windfall, experts say.

In 2023, home sellers made a $121,000 profit on the typical median-priced single-family home, according to ATTOM, a nationwide property database. But sometimes profits exceed the IRS limits for tax-free gains and “it’s a shock” for sellers, said certified public accountant Miklos Ringbauer, founder of MiklosCPA in Los Angeles.

Who Qualifies for the Capital Gains Exemptions

There are strict rules to qualify for the $250,000 or $500,000 capital gains exclusions, Ringbauer warned. The “ownership test” says you must own the home for at least two of the past five years before your home sale — but that’s only required for one spouse if you’re married and filing jointly.

There’s also a “residence test,” which requires the home to be your primary residence for any 24 months of the five years before sale. Both spouses must meet the residence requirement for the full exclusion. A partial exclusion may also be possible if you sold your home because of a workplace location change, for health reasons, or for “unforeseeable events,” according to the IRS. Generally, you can’t get the tax break if you received the exclusion for the sale of another home within two years of your closing date.

How to Reduce Your Home Sale Profits

If your capital gain exceeds the IRS exclusions, it’s possible to reduce your profits by increasing your home’s original purchase price or “basis,” according to certified financial planner Assunta McLane, managing director of Summit Place Financial Advisors in Summit, New Jersey.

For example, you could tack on the cost of home additions, updated systems, landscaping, or new appliances. But the cost of repairs and maintenance generally doesn’t count.

Of course, you’ll need detailed records to show proof of capital improvements because “estimates don’t work when it comes to an audit,” Ringbauer said. After a home sale, the IRS receives a copy of Form 1099-S, which shows your closing date and gross proceeds. But you need paperwork to prove any changes to your home’s basis. Failing to keep home improvement records throughout ownership is a “common mistake,” McLane said.

Reducing your capital gains tax bill after selling a home can be a complex process, but understanding the rules and taking advantage of available strategies can help you minimize your tax liability. For more information on taxes and finance, visit Business Today.