Capital Gains Tax Exemption for Primary Residence

Many Buyers and Sellers Team Whitney works with in the South Bay area in California have questions about the capital gains tax exemption when selling a primary residence.  There is a difference between a 1031 exchange and the capital gains tax exemption.  To make it simple, this blog on the capital gains tax rules applies to a primary residence.  A 1031 exchange refers to selling one of your investment or income properties and exchanging it to purchase another income or investment property.  We will discuss 1031 exchanges in more detail in a different blog.

For the capital gains tax rules, if you sell your primary residence for a gain, you can potentially exclude up to $250,000 of the gain from your income if you file taxes as a single person, or potentially up to $500,000 of the gain from your income if you file jointly with your spouse.  This is $250,000-$500,000 of tax-free money!  There are 6 stipulations I will go through to be able to utilize this huge tax savings benefit.

1. You are not required to invest the gain into more real estate, as you are required to in a 1031 investment property exchange, so feel free to go out and buy that airplane or boat!  

2. You must meet BOTH the usage and ownership requirements, meaning you used the property as your primary residence and also owned the property for 2 out of the last 5 years.  In most cases, a family owns a property and lives in it as their primary residence during the same 2-year period, but these requirements can also occur at different times.  Let’s say you are renting and living in a condo in years 1 and 2.  In year 3 you purchase the condo, and move out to another property.  In year 5 you decide to sell the condo.  You satisfied the 2 year “usage” requirement before you even owned the property when you were a tenant, and the 2 year “ownership” requirement later on in years 3 and 4.  

3. You are not eligible for this exemption if you already filed for this exemption for another primary residence in the last 2 years. 

4. You can utilize this tax exemption as many times as you would like, as long as each exemption filing is 2 or more years apart.  

5. If you are married filing jointly, to qualify for the $500,000 capital gains tax exclusion, either you or your spouse can meet the ownership test, while you both must meet the usage or primary residence test. 

6. If your spouse passes away, you can still qualify for the $500,000 capital gains tax exclusion if you sell the property within 2 years after the date of your spouse’s death, as long as the 2 year usage and ownership requirements were met in the years preceding your spouse’s death.

I am not an accountant or an attorney; therefore, all Sellers and Buyers should always consult their legal and tax professionals regarding these matters.  For more information, or any additional questions you may have, please contact Danielle Whitney Moore with Team Whitney (Keller Williams Realty L.A. Harbor) at (310) 987-9103.