When you sell your home, calculating your profit takes a few extra steps beyond the selling price minus the purchase price.
Why is the profit from your home sale important for taxes?
When you sell your home, you may have to pay capital gains tax on any profit.
At the federal level, there’s an exclusion of up to $250,000 in capital gains if you’re single or $500,000 if you’re a joint filer. The exclusion only applies to the sale of your qualifying primary residence.
You only pay capital gains tax on the amount above the exclusion. So if you’re a single filer with a $300,000 gain, you subtract $250,000 and only have to pay capital gains tax on $50,000.
If you’re an investor or selling a second home, you may have to pay tax on your full capital gain.
States with state income taxes often follow similar rules to the IRS rules when selling your home. Other states, like Texas, don’t tax capital gains.
What are the steps to calculate the profit on a home sale?
There are several steps to calculating the profit from selling your home. These steps provide a general overview, but you should talk to an accountant about the specifics especially if you are considering spending money because you want to take a tax deduction.
- Selling price minus purchase price.
The first step is to subtract the purchase price from your selling price.
So if you bought your home for $100,000 and sold it for $100,000, your profit so far is $100,000.
- Subtract selling costs.
You can also typically deduct selling costs that you pay such as real estate agent fees, legal fees, and other administrative expenses. Don’t deduct amounts paid by the buyer.
For easy math, we’ll call these expenses $10,000. Your profit is now down to $90,000.
- Deduct last minute repairs.
You may be able to deduct last minute repairs need to sell your home. For example, your buyer might request repairs after the inspection.
We’ll assume your deductible expenses are $1,000, reducing your profit down to $89,000.
- Deduct capital improvements.
If you previously made capital improvements to your home, so can also generally deduct those expenses. Capital improvements can include thing like installing a new pool or making upgrades to your kitchen.
Capital improvements generally don’t include repairs, maintenance, or like-for-like replacements. For example, replacing your roof generally won’t count as a capital improvement.
We’ll assume your capital improvements were $10,000, so your profit is down to $79,000.
- Add back depreciation.
If you claimed the home office deduction or claimed depreciation on a rental property, you may need to add back or recapture the depreciation deduction you claimed. Since you already got a deduction for the depreciation, you can’t count it as part of the purchase price as a deduction against your selling price.
So if you claimed $10,000 in depreciation in previous years, your profit is back up to $89,000.
Note: Special rules may apply if you sell at a loss or your depreciation deductions totaled more than your purchase price.
- Add back casualty losses.
If you received a casualty loss deduction for a disaster, such as a hurricane, and didn’t make repairs, you may need to add back your casualty loss amount.
For example, if you received $5,000 for cosmetic damage you decided not to repair, you’ll need to add $5,000, and your profit is up to $94,000.
How does the IRS verify your purchase price and other deductions?
Like other tax issues, it’s up to you to prove what you’re supposed to pay in taxes. Otherwise, the IRS may charge you capital gains tax on your full selling price.
Keep records like proof of your original sale, documentation of your selling costs, and any adjustments to your purchase price or cost basis.
What if I sold my furniture or appliances as part of my house sale?
Most real estate sales contracts are worded so you can’t deduct the cost of furniture or appliances from your selling price. That’s because they usually have no value in the contract or a nominal amount like $1.
If you sell furniture or appliances worth a lot of money, you may want to include that sale in a separate contract. You’d then only have to pay taxes on the amount above what you bought the items for.
Note that if you sold at a profit, separating these items would mean they wouldn’t fall under the home sale capital gains tax exclusion.
When do you need to report your home sale on your taxes?
You’ll get a Form 1099-S from the closing agent after most home sales.
Even if you sell at a loss or don’t exceed the home sale capital gains exclusion, you’ll still need to report the sale on your tax return. You’ll also report things like what you paid for your home and whether you qualify for the capital gains exemption.
In other words, receiving a tax form or entering your sale on your tax return doesn’t mean you’ll have to pay home sale profit tax. The IRS just collects the information to make sure people who do owe taxes pay their taxes.