Capital gains taxes are a tax on the money you have made from an investment. When capital assets such as a home or other real estate are sold, your gains become realized. Whenever you sell, it becomes taxable income. Capital gains taxes seem to be receiving a lot of attention these days and for good reason. President Biden’s “American Families Plan” will likely include a large increase in the top federal tax rate on long-term capital gains and dividends. Currently at 23.8%, this rate would increase to 39.6%. If you also include the net investment income tax, the top federal tax rate on capital gains balloons to 43.4%. If that is not enough, these rates would be even higher depending on state and local capital gains taxes. This would lead to a combined average rate of 48%, as compared to the current combined average rate of 29%.
Benefits of home ownership
One of the tax benefits of owning a home is having a capital gains tax deduction that can offset any gains you might have. Per IRS guidelines, homeowners are allowed to exclude a certain amount of profit that occurs from selling their primary residence. These exclusions are as follows:
- A $250,000 exclusion of capital gains on a piece of real estate if you’re currently single.
- A $500,000 exclusion of capital gains on a piece of real estate if you’re married or you’re filing jointly.
What conditions could exclude these capital gains savings?
While the above capital gains exclusions are a tremendous tax benefit, there are factors that could result in not having access to these exclusions. These factors are as follows:
- The property wasn’t your principal (main) residence.
- You owned the home for less than two years in the five year period before you officially sold it.
- You didn’t live in the house for at least two years in the five year period before you sold the property. There are some exceptions to this rule: disabled, military and foreign service or intelligence people can break this rule.
- You’ve already claimed the $250,000 or $500,00 exclusion on a home previously in the past two years.
- The house is owned due to a like-kind exchange. (i.e. 1031 Exchange)
- You are currently subject to emigration tax.
Short term vs. long term capital gains
Short-term capital gains are applicable when you have owned an investment asset for less than one year. If an asset is owned for less than one year and it is sold for a profit, then the applicable capital gains tax rate would be equal to your regular income tax rate (i.e. tax bracket).
Long-term capital gains apply when you have owned an investment asset for more than a year. This effective tax rate will vary based on a lot of factors, including your current filing status and income.
Summary
Investing in real estate can be a great way to build wealth while also providing some tax savings. If done appropriately, many or all of these gains may even potentially be free from any capital gains taxes. For starters, living in your home for 2 of the last 5 years can automatically qualify you for significant capital gains exclusions. In addition, it is important that you maintain complete and thorough records of all of your receipts for any capital improvements you have done to your home. These records are very important as they can be applied towards your tax basis. Lastly, any costs associated with the sale of your home should also be tracked. These costs may include marketing expenses, real estate commissions, and others.
At Live South Florida Realty, Inc. we have assisted many clients build their real estate investment portfolios. Are you looking to buy or sell a property in South Florida? Now more than ever, it is critical to have a qualified real estate team and the proper search tools behind you. Live South Florida Realty, Inc., has been a leader in the South Florida market for many years. Let our team of professionals assist you with buying or selling your piece of paradise today! In addition, our recently launched “Florida Home Search” app is now available on the Apple App Store and Google Play Store. With real-time MLS feeds, this app lets you set your own alerts to notify you as soon as a property meeting your needs hits the market. Furthermore, it will also let you know of recent closed sales in your area so that you may be even more educated on the market. Be sure to download this app for your smartphone or tablet today!
