Essential Tax Considerations When Selling Your Home

2 August 2025

Selling your home is a big deal. It’s exciting, stressful, and—let’s be honest—a bit overwhelming. Between staging, showings, and negotiations, taxes might be the last thing on your mind. But understanding the tax implications before you sell can save you from a nasty surprise when tax season rolls around.

Let’s break down the essential tax considerations when selling your home, so you can keep more of your hard-earned profit in your pocket.

1. Will You Owe Capital Gains Tax?

The biggest tax question around selling your home is whether you'll owe capital gains tax. This is a tax on the profit (or "capital gain") from selling an asset, like property. But don’t panic yet—there’s a good chance you won't owe a dime.

The Capital Gains Tax Exclusion

The IRS offers a sweet tax break called the Primary Residence Exclusion. If you qualify, you can exclude:

- Up to $250,000 of profit if you're single
- Up to $500,000 of profit if you're married and filing jointly

That means if your home’s value has increased, you may still sell it tax-free—if you're eligible.

Who Qualifies for the Exclusion?

To claim the capital gains tax exclusion, you must meet these two key tests:

1. Ownership Test – You must have owned the home for at least two years in the past five years.
2. Use Test – It must have been your primary residence for at least two years in the past five years.

If you bought a house, lived in it for a couple of years, and then moved out to rent it, you might still qualify!

2. What If You Don’t Qualify for the Capital Gains Exclusion?

If you don’t meet the requirements, your profit will be subject to capital gains tax. The rate depends on how long you owned the home:

- Short-term capital gains (if owned for less than a year) are taxed at your ordinary income tax rate (which could be as high as 37%).
- Long-term capital gains (if owned for more than a year) are taxed at 0%, 15%, or 20%, depending on your income level.

That’s why it’s usually better to hold onto a home for at least two years if you want to minimize taxes.

3. Can Home Improvements Reduce Your Taxable Gain?

Yes! Your taxable gain isn’t just the difference between the purchase price and sale price. You can adjust your "cost basis" by factoring in home improvements.

What Counts as a Home Improvement?

Any major renovations that increase your home’s value or extend its life can be added to your cost basis, reducing your taxable profit.

Some examples:
✅ Kitchen remodels
✅ Bathroom renovations
✅ New roof
✅ HVAC replacement
✅ Room additions

But routine repairs and maintenance—like painting or fixing a leaky faucet—don’t count.

Let’s say you bought your home for $300,000, invested $50,000 in a kitchen remodel, and sold it for $400,000. Instead of being taxed on a $100,000 profit, your taxable gain would only be $50,000 ($400K - $350K).

4. Do You Have to Report the Sale on Your Taxes?

If your profit is below the exemption limit, and you meet the ownership and residency requirements, you usually don’t have to report the sale at all.

But if:
- You receive a Form 1099-S from the settlement agent
- Your gain exceeds the $250K/$500K exclusion
- You don’t meet the IRS qualifications

Then, yes—you’ll need to report the sale on your tax return.

5. What If You’re Selling a Second Home or Rental Property?

Selling a second home or rental property? Brace yourself—there are no primary residence exclusions here. That means your profits are fully taxable under capital gains rules.

However, there is a tax strategy called a 1031 exchange that allows you to defer capital gains taxes by reinvesting the proceeds into another investment property. This can be an excellent way to keep growing your real estate portfolio without losing significant money to taxes.

6. What About Property Taxes at the Time of Sale?

When selling your home, property taxes don’t magically disappear.

Here’s how it works:
- Property taxes are prorated at closing.
- You’ll owe property taxes up until the sale date.
- The buyer takes over taxes from that point forward.

If you’ve already paid property taxes beyond the sale date, you may get a refund. If you haven’t paid enough, that amount will come out of your sale proceeds.

7. Can Selling Your Home Affect Other Taxes?

Yes! The sale of your home could have unexpected tax consequences.

Medicare Surtax on High Earners

If your income (including the sale of your home) exceeds these thresholds:
- $200,000 (single filers)
- $250,000 (married filing jointly)

You may be subject to an extra 3.8% Medicare surtax on your capital gains.

Impact on State Taxes

Some states have their own capital gains taxes, separate from federal rules. If you live in a high-tax state like California or New York, part of your profit could also be taxed at the state level.

8. Will Selling Your Home Affect Your Next Tax Return?

It could! If you made a major profit that isn’t excluded, you might owe a hefty tax bill. To avoid penalties:

- Make estimated tax payments throughout the year.
- Adjust your withholding if you’re a W-2 employee.
- Consult with a tax professional—especially if the numbers are big.

Final Thoughts: Plan Ahead to Minimize Taxes

Selling your home is exciting, but taxes can take a big bite out of your profits if you're not careful. The good news? With proper planning, you might be able to eliminate or significantly reduce your tax liability.

Want to keep Uncle Sam from dipping too deep into your pockets?
- Check if you qualify for the capital gains exclusion.
- Track home improvements to boost your cost basis.
- Look into a 1031 exchange if selling an investment property.
- Stay ahead of property taxes and other potential pitfalls.

A little preparation goes a long way in keeping more money in your bank after closing day.