Capital Gains Tax on Home Sales: What Homeowners Need to Know

Selling your home can be exciting, especially if you’re making a profit. But before you start dreaming about how you’ll use that extra cash, there’s one important thing to consider: capital gains tax.

Depending on your situation, you may owe taxes on the profit from the sale — or you may be able to avoid them entirely. Here’s what you need to know.

 What Is Capital Gains Tax?

Capital gains tax is a federal tax on the profit you make when you sell an asset for more than you paid for it. This includes real estate. The profit you make is called a capital gain, and the IRS may want a share.

However, the U.S. tax code provides generous exclusions for homeowners selling their primary residence.

 The Home Sale Exclusion

If you meet certain requirements, you may be able to exclude a large portion of your home sale profit from taxes:

• Up to $250,000 in gains if you file single
• Up to $500,000 in gains if you file married filing jointly

This is known as the Section 121 Exclusion.

 Requirements to Qualify

To take advantage of the exclusion, you must generally meet these rules:

1. Ownership Test – You owned the home for at least two years.
2. Use Test – You lived in the home as your primary residence for at least two of the last five years before the sale.
3. Frequency Rule – You haven’t claimed the home sale exclusion for another property in the past two years.

 Example Calculation

Example:

• Bought home in 2015 for $300,000
• Sold in 2025 for $500,000
• Profit = $200,000

If you meet the requirements, the entire $200,000 gain is excluded from tax if filing single, since it’s under $250,000.

 When You Might Owe Capital Gains Tax

You may have to pay tax if:

• Your gain exceeds the $250k/$500k exclusion limits.
• The property wasn’t your primary residence (e.g., rental or vacation home).
• You don’t meet the ownership and use requirements.
• You claimed depreciation on the property (common for rentals).

 Special Cases

• Partial Exclusion – If you sold due to certain hardships (job change, health issues, etc.), you may qualify for a partial exclusion even if you don’t meet the two-year requirement.
• Inherited Homes – Different tax rules apply, often involving a “step-up” in basis to the property’s fair market value at the time of inheritance.
• Investment Properties – Gains on investment properties are fully taxable unless deferred through a 1031 exchange.

 Reporting the Sale

If your gain is taxable, you’ll report it on IRS Form 8949 and Schedule D when you file your taxes. If the entire gain is excluded, you may not need to report the sale at all, but you should still keep good records.

 Final Tips

• Keep closing statements, receipts for improvements, and other records — these help increase your cost basis and reduce taxable gains.
• Consult a tax professional before selling if you’re unsure of your exclusion eligibility.
• Consider timing your sale to meet the two-year residency rule and maximize your exclusion.