Max Out Your Home Sale Gain Exclusion

Even with the Fed raising interest rates, the fall is still one of the busiest seasons for residential real estate.  Even if you’re not selling right now, but plan to in the next year or two, now is a good time to make sure you are ready to take advantage of the Home Sale Gain Exclusion.

That exclusion under IRC section 121 can shelter up to $500,000 of gain ($250,000 for non-joint filers) from federal income tax.  The key to taking advantage of this is that you must meet the ownership and use tests and your basis computation is accurate.

Before selling your home, you should take the time to reconstruct your total cost basis.  Every qualifying improvement adds to your basis and reduces the taxable gain on the sale.  If you miss including some improvements, you may end up paying tax.

To claim the exclusion, you must have owned and used the home as your principal residence for at least two of the last five years ending on the sale date.  You can claim the exclusion multiple times in your lifetime, but the general rule is only once every two years.

Warning, if you have used that home as a rental at any time, then you must prorate the number years it was a rental vs a personal residence and apply that percentage to the Home Sale Gain Exclusion allowed.  Example: If your personal residence was a rental for 5 years of the 15 you owned it, then 1/3 of the Home Sale Gain Exclusion is lost.  (33% of $500,000 is $165,000.)

To get your adjusted basis correct, start with what you originally paid for the home, including closing costs.  Then add capital improvements.  Such as adding a room, upgrading a bathroom or kitchen, adding new items to your house such as an HVAC system, upgraded roof, landscaping, fencing, upgraded flooring, etc.  NOTE: Routine repairs of existing items do not qualify.

Let’s run through an example.  Let’s say you’re married and your original home purchase price was $450,000 and you made $120,000 of improvements over the last 25 years.  Your adjusted basis is $570,000.  If you sell your home for $1,100,000, you have a potential gain of $530,000.  Take the first $500,000 (Home Sale Gain Exclusion) off the top, and you have a taxable gain to report of $30,000.  Without documenting the $120,000 in improvements, your apparent basis is only $450,000 and the taxable gain jumps to $150,000.

To make sure you find everything you’ve done to your home, pull out old credit card and bank statements.  Better, as soon as you purchase a home, start a folder that you put every major upgrade paperwork in.

Have you heard?  Proverbs 24:27 says, “Prepare thy work without, And make it ready for thee in the field; And afterwards build thy house.”

Kelly Bullis is a Certified Public Accountant in Carson City.  Contact him at 775-882-4459.  As well as on our website at BullisAndCo.com. You can also find us on LinkedIn and Facebook.