Capital gains taxes are taxes on the difference between the selling price and the purchase price of a real estate asset. House owners should be aware of the potential impact of capital gains taxes on their real estate profits.
Who Pays Capital Gains Tax?
Capital gains taxes are generally imposed on the seller of the property rather than on the buyer. The person who must pay any capital gains taxes is the one who makes a profit when they sell their property.
How Capital Gains Tax is Calculated
Capital gains taxes are calculated by subtracting the original purchase price of the property and any related costs, such as real estate taxes, maintenance costs, and any capital improvements, from the selling price. The resulting profit is then subject to the capital gains rate for the taxpayer’s income tax bracket.
Capital Gains Tax Exclusions and Deductions
Taxpayers may be eligible for several exclusions and deductions when it comes to capital gains taxes. For example:
- Principal Residence Exclusion – Taxpayers may be able to exclude up to $250,000 of capital gain from the sale of their primary residence ($500,000 for those filing jointly).
- Cost Basis Adjustment – Costs related to property renovations and improvements can be added to the basis of the property, reducing the amount of taxable capital gains.
- 1031 Exchange – A 1031 exchange allows taxpayers to defer capital gains taxes by exchanging a real estate investment property for another of “like kind” character.
Capital gains taxes on real estate can be a significant expense for homeowners, but they can be offset through various exclusions and deductions. Taxpayers should familiarize themselves with the tax code and consult with a qualified professional to ensure full compliance.