What are capital gains? | Calculating capital gains tax | Capital gains by state | Minimizing capital gains taxes
Selling your house less than two years after buying it? You could be hit with a hefty capital gains tax bill — potentially as high as 37% of your profit. Fortunately, there are exceptions and strategies that can reduce or eliminate your tax liability.
Homeowners can avoid capital gains taxes by waiting two years or more before selling.
For those who need to sell faster, we gathered the best strategies for offsetting your tax burden. For example, we can help you find top realtors who charge half the typical listing fee, which could save you thousands of dollars.
Read on to learn more about the key tax rules, penalties for selling early, and how to legally minimize or avoid capital gains tax altogether.
Key takeaways
- Selling your home before two years of ownership may trigger federal and state capital gains taxes.
- Capital gains tax rates depend on how long you’ve owned the home, your income, and your location.
- Some homeowners qualify for partial exemptions if they sell early due to life events like job changes or health issues.
- Nine states (AK, FL, NV, NH, SD, TN, TX, WA, and WY) have no state capital gains tax.
- To qualify for the IRS’s $250,000/$500,000 capital gains exclusion, you must live in the home for two out of the five years before the sale — and those years don’t have to be consecutive
What are capital gains on a house sale?
Capital gains are the profits from the sale of a home or other asset and are generally considered taxable income.[1]
If you sell your home for more than you paid (after subtracting qualified expenses and improvements), the IRS considers the difference to be capital gains.[2] You may owe both federal and state taxes on those profits, depending on where you live.
You can, however, deduct most expenses from the sale price of your home, which can greatly reduce how much you’ll pay in taxes. Common deductions include:
- Agent’s commission fees
- Appraisal fees
- Attorney fees
- Closing fees
- Escrow fees
- Local transfer taxes
- Title search fees
You may also increase your cost basis by adding the value of home improvements, such as a new roof, HVAC system, or kitchen remodel.
If you’ve owned your property for less than a year, you’ll pay short-term capital gains taxes, which is treated like regular income. If you’ve owned your home for longer than one year, you’ll pay long-term capital gains taxes, which are generally lower.
Additionally, state capital gains tax rates vary widely — and some states have no capital gains tax at all.
» JUMP TO: What is the capital gains tax in my state?
Tax tip: In most cases, renovations and home improvement projects count as valid tax deductions. Subtracting these costs from the proceeds of your sale can help reduce the capital gains taxes you owe.
Calculating capital gains taxes
Let’s say you purchased a home for $250,000 and sold it for $300,000, earning $50,000 in proceeds.
After subtracting $27,000 for closing costs and commission fees, you would only be taxed on the remaining $23,000.
| Sale price | $300,000 |
| Original purchase price | -$250,000 |
| Deductions (6% commission and 3% closing costs) | -$27,000 |
| Capital gains | $23,000 |
| Capital gains tax | Varies by location and situation |
Let's look at another example: You bought a home for $400,000 and sold it 18 months later for $600,000. Your gain is $200,000, and because you didn’t qualify for the capital gains exclusion, the entire $200,000 could be subject to short-term capital gains tax at your ordinary income tax rate — potentially costing you $60,000 or more.
After one year or less: Short-term capital gains taxes
If you sell your property after owning it for one year or less, you'll pay short-term capital gains taxes, which is taxed as ordinary income and currently ranges from 10–37% (applied to the difference between your home's original purchase price and current sale price). [3] The tax rate you pay depends on your location and tax bracket.
» LEARN: Selling a house after 1 year or less? You need to read this!
After more than one year: Long-term capital gains taxes
If you've owned your property for more than one year before selling, you'll pay long-term capital gains. These rates are typically lower.
Your rate could be 0%, 15%, or 20% of your home's proceeds, depending on your taxable income and whether you're married or single. In general, long-term rates are more favorable than short-term rates and reward homeowners who wait at least one year before selling.
| Tax status | 0% rate | 15% rate | 20% rate |
| Single | Income less than $47,025 | Income is $47,026-518,900 | Applies to income that exceeds the 15% limit |
| Head of household | Income less than $63,000 | Income is $47,026-551,350 | Applies to income that exceeds the 15% limit |
| Married filing jointly | Income less than $94,050 | Income is $94,051-583,750 | Applies to income that exceeds the 15% limit |
| Married filing separately | Income less than $47,025 | Income is $47,026-291,850 | Applies to income that exceeds the 15% limit |
Source: IRS Topic No. 409 Capital Gains and Losses
Even if you qualify for the long-term rate, you must still meet the two-year use rule to claim the $250,000/$500,000 exclusion on capital gains
For those selling an investment property or second home, the only way to diminish capital gains taxes is to hold onto the property for longer than a year so it qualifies for these more favorable terms.
Working with a low-cost realtor is another way to offset some of your tax burden, so you can keep as much money in your pocket as possible after your sale.
State capital gains taxes
Most — though not all — states require homeowners to pay state capital gains taxes. There are currently nine states that do not have a capital gains tax:
- Alaska
- Florida
- Nevada
- New Hampshire
- South Dakota
- Tennessee
- Texas
- Washington
- Wyoming
In all other states, tax rates vary considerably depending on your location. For example, homeowners in California pay 13.3%, while those in Nebraska enjoy a lower rate of 6.84%.
Some states follow federal rules, while others calculate gains separately. Check with a tax professional to understand your local obligations.
What is a capital loss?
A capital loss occurs when a home seller sells their home for less than they paid for it.
For example, let's say you purchased a home for $250,000, then sold it for $200,000. In this case, your capital loss would be $50,000.
Capital losses may offset capital gains on other investments, but you generally can't deduct a loss on the sale of your primary residence unless it was used as a rental or investment property. Speak with a tax pro to see what applies in your situation.
Tips for minimizing capital gains taxes
Live in your home for two or more years before selling
Homeowners who stay in their homes for at least two years before selling can significantly reduce their capital gains taxes:
- Single homeowners can exclude the first $250,000 of capital gains.
- Married couples filing jointly can exclude the first $500,000 of capital gains.
To qualify for this capital gains tax exclusion, you must own and live in your home for two of the five years leading up to the sale, and you can't have claimed the exclusion on another home sale in the past two years
The use and ownership periods don't have to be consecutive. You just need two full years of each within the five-year window.
If eligible, you can exclude:
- Up to $250,000 of gains if you're single
- Up to $500,000 of gains if you're married and file jointly
For example, let's say you purchased a home for $300,000. After two years or more, you sell your home for $700,000, earning $400,000 from the sale.
If you qualify, you could exclude $500,000 of the $400,000 gain, leaving no taxable capital gain.
Qualify for a partial exclusion
You may still be eligible for a prorated exclusion — even if you’ve lived in the home less than two years — if you sold because of:
- A job relocation 50+ miles away
- Health issues
- Divorce or legal separation
- Death of a spouse
- Other unforeseen circumstances, like a natural disaster
Your exclusion amount is based on the portion of the two years that you lived in the home. For example, if you lived there for one year (50% of the required time), you may be able to exclude $125,000 (50% of the $250,000 single exemption).
Use an installment contract to defer payment
If you want to spread your capital gains taxes across multiple years instead of paying a big tax bill right away, sell your home on an installment contract.
In an installment sale, the buyer pays part of the price up front and the rest in regular payments. This spreads your taxable gain across each year you receive a payment, which may lower your total tax burden.
If you take this route, it’s important to set clear guidelines and a timeline for how long the buyer will have to pay. There are also regulations and limitations to installment payments, so be sure you understand exactly how to report your income.
Do a 1031 exchange
If you’re selling an investment property, you can do a 1031 exchange to defer paying capital gains taxes.
To qualify:
- Both the old and new properties must be held for investment or business purposes
- You must identify the new property within 45 days of the sale
- You must close within 180 days
Note: This strategy doesn’t apply to primary residences or vacation homes, and depreciation recapture may still apply.
Recommended reading
The Seller’s Net Sheet, Explained: A seller’s net sheet explains exactly how much money you’ll make from your home sale. We translated the most common net sheet terms into an easy-to-understand guide.
How Much Does It Cost to Sell a House? While there's no one-size-fits-all number, we gathered the most common costs you should plan to cover while selling your home.
Are Tax Deeds Legal in Your State? Learn the differences between investing in tax deeds and tax liens — and the laws in your state.