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Home sellers face surprise tax bills as house prices rise – are you affected?

TAX bills on profits could prove to be costly for home sellers hit with surprise costs, as housing prices soar.

Single sellers can generally exclude $250,000 from their taxable profit and married sellers $500,000.

Surging home prices in the US could mean home sellers are hit with hefty capital gains taxes, because exclusion rates have not changed in 25 years

However, those amounts haven’t changed in 25 years.

Home prices have skyrocketed during the pandemic, turning it into a seller's market.

However, with bigger profits could come a heftier tax bill, reports the New York Times.

For decades, most Americans have been shielded from paying capital gains taxes on the sale of their homes, unless their profits exceeded certain limits.

Now, as home prices have surged, sellers could be hit by bigger taxes, especially if they've owned a property for a long time and it has appreciated in value.

Factors determining whether you will owe tax

  • Eligibility for capital gains “exclusion,” an amount you can subtract from your taxable profit when you sell: $250,000 for a single filer; $500,000 for a joint return.
  • This exemption is only allowable once every two years.
  • You can add your cost basis and costs of any improvements that you made to the home to the $250,000 if single, or $500,000 if married filing jointly.

In today's climate, it is becoming easier to exceed the thresholds set in 1997 in the Taxpayer Relief Act.

The typical sales price for a previously owned single-family home more than doubled in just the last decade.

In fact, in April the median price of an existing home sold was $391,200, the highest on record, and an increase of nearly 15% from a year ago, per the National Association of Realtors.

As a result, the association sees a growing potential for capital gains taxes, Evan Liddiard, a certified public accountant and director of federal tax policy for NAR, told the New York Times.

That median is skewed higher, because sales continue to be even more robust on the higher end of the market, where the supply is stronger, according to CNBC.

Caleb Silver, Editor-in-Chief at Investopedia told The Sun that things are likely to get more difficult for sellers.

Mr Silver said: "The homebuying market is facing a perfect storm of rising mortgage rates, thin supply, and the likelihood of rising tax bills for homeowners this year and next."

"Since tax assessments are still lagging behind the appreciation in home prices, those higher tax bills will put a strain on existing homeowners, and may deter would-be buyers from entering an already expensive market in most cities."

The worry is particularly acute in high-priced markets on the coasts, Greg White, an accountant in Seattle, told the Times.

“If you are in San Francisco, Seattle, New York or Boston it’s easy to go over the $500,000 limit.”

How to qualify for the exclusion

You must have owned the house and lived in it as your main home to qualify for the exclusion.

The Internal Revenue Service also refers to it as your “primary residence” for at least two of the five years before the sale closes.

It’s generally the address where you spend most of your time and that’s listed on documents like your tax return, voter registration card and driver’s license.

The two years don’t have to be consecutive - you can have had a different main home for part of the five-year period.

Steps to mitigate the amount of taxable gain

  • Subtract costs associated with the sale of the house, like real estate commissions and transfer and appraisal fees.
  • Increase your “basis” — the dollar amount on which the gain is based — by adding to your purchase price the cost of any improvements made to your home over the years.

If you don’t qualify for the full exclusion, you may be able to claim a partial exclusion.

The IRS provides a worksheet, but experts say it’s best to get professional advice to ensure accuracy.

There is also a limit on how often you can take the exclusion: only once every two years.

If you do end up with a taxable gain, the tax amount depends on your federal bracket and how long you owned the property.

Long-term capital gains tax rates, which apply to assets held for at least a year, are generally lower.

Short-term gains are taxed at ordinary income rates and some states may also charge their own capital gains taxes.

Given the rising value of homes, a recent report from the Congressional Research Service said “policymakers may wish to reconsider” the caps of $250,000 and $500,000.

If the exclusion amounts had been increased to reflect the change in the “average housing price” from 1998 to 2021, they would now be $650,000 for single homeowners and $1.3 million for married couples, according to the report.

Here's more from The Sun on a costly mistake while purchasing a home.

Plus, an exclusive on the one error an experienced homebuyer and seller is still kicking herself over, more than 20 years after buying her dream home.

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