Downsizing your home can be a strategic move, whether you're looking to simplify your lifestyle, reduce expenses, or free up equity. However, it's important to understand the potential impact of capital gains when selling your current property. Capital gains tax is a tax imposed on the profit earned from the sale of an asset, including real estate.
Qualifying for an Exclusion
When you sell your primary residence, you may be eligible for a capital gains tax exclusion of up to $250,000 for individuals or $500,000 for married couples filing jointly. To qualify for this exclusion, you must have owned and lived in the property as your primary residence for at least two out of the last five years. Also, be aware that selling costs & improvements for the sale of the home within 1 year of the sale can lower the profit margin.
Non-Qualifying Amounts
However, if the profit from the sale exceeds the allowable exclusion, you may be subject to capital gains tax on the amount above the exemption. The capital gains tax rate varies based on your income level and can range from 0% to 20%.
How it works - Example
For example, let's say you purchased your home for $300,000 and are now selling it for $600,000. If you're eligible for the full $250,000/$500,000 capital gains tax exclusion, you won't owe any capital gains tax. However, if your profit exceeds the exclusion, let's say $100,000, you may owe capital gains tax on that amount.
Consult with an Expert
When downsizing, it's crucial to assess the potential impact of capital gains and consult with a tax professional to understand your specific situation. They can help you navigate the tax implications and explore strategies to minimize or defer capital gains tax, such as investing in another property or utilizing a 1031 Tax Exchange.
Final Thoughts
Considering the potential tax consequences when downsizing is an essential step in planning your future and ensuring you make informed decisions about your real estate investments.
