Tax Implications of Selling a Second Home

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When you sell a second home, you don’t get the usual tax benefits for selling your main home. There are still ways you can save on taxes.

Taxes on Selling a Second Home

All home sales are subject to capital gains tax. The capital gains tax is based on your profit from the same which is generally the selling price minus the purchase price.

Most people can avoid taxes when selling their primary home. That’s because you can exclude $250,000 of profits as a single filer or $500,000 of profits as joint filers on your federal tax return. States often have similar rules, but you have to check for your specific state.

So when you sell your main home, you only pay capital gains tax on any profit above the $250,000 or $500,000 exclusions.

When you sell a second home, you pay capital gains tax on the first dollar of profits.

Your capital gains tax rate is either 0%, 15%, or 20% depending on your total taxable income. Most people who sell a second home will fall into the 15% or 20% brackets depending on your regular income.

If you sell a home before you’ve owned it for a year, you may owe your ordinary income tax rate instead of the lower capital gains tax rate. And if you’re a flipper or investor, you may owe additional business taxes.

Avoiding Taxes on Selling a Second Home

If you’re selling a second home, you can avoid taxes by converting it into your primary residence. You’d then get the $250,000 or $500,000 home sale exclusion.

To have a home qualify as your primary residence, you generally need to have owned it and lived in it as your primary residence for at least two out of the last five years.

So if you’re selling what’s been your vacation home, you can move into it for two years and save up to $50,000 or $100,000 in capital gains taxes. To do this, you don’t need to sell your main home. You just need to change which home you live in most of the time.

Warning: The IRS and states can do a residency audit to make sure you actually moved into your second home.

The two years to qualify for the sale of your primary residence tax exclusion don’t have to be the last two years or even two consecutive years.

For example, if your last five years look like this, you’ve met the two out of five years requirement.

  • Second Home (Old Primary Home)
  • Second Home (Old Primary Home)
  • New Primary Home
  • New Primary Home
  • New Primary Home

If you used to live in what’s now your second home but haven’t met the full two out of five years, you can move back into it for less than two years. For example:

  • Second Home (Old Primary Home)
  • New Primary Home
  • New Primary Home
  • New Primary Home
  • Second Home (Old Primary Home)

Before you plan to sell your second home or change which home you live in, talk to a tax accountant to make sure you’re doing everything by the book.

Downsides to Changing Your Primary Residence

  • If you delay a sale, home prices could fall and either wipe out or reduce your tax savings. You’ll also have to keep paying to maintain both homes.
  • You may lose property tax benefits. Some states cap how much your property tax assessment can increase each year but if you switch your primary residence, you may lose that cap. Before changing your primary residence, check to see whether and how much your property taxes will increase.

Section 1031 Exchanges

You may also see Section 1031 exchanges as a way to avoid taxes on selling a second home. A 1031 exchange allows you to sell one property and buy another to replace it without paying taxes on the sale of the first property.

To qualify for a Section 1031 exchange, a home generally must be a rental property or investment property.

You can’t just declare that your second home is an investment property and qualify for a Section 1031 exchange. Under Internal Revenue Procedure 2008-16, you’ll generally need to convert your second home into an actual rental property for at least two years before it can qualify for a 1031 exchange.

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