What's the capital gains tax on my house?

John W. Schoen Senior Producer • Profile • E-mail

Q: Does the Capital Gains tax cut to 15 percent apply to house sales? I bought my house one year ago and it is my principal residence, if I sell now I will make $170,000 profit, but I will have to pay capital gains tax on my profit because I did not live there and own the property for a 2 year period. If I do sell will I pay 15 percent on the 170,000 or will the rate be higher?? — Mike D., Brick Township, N.J.

A: A home is one of the best ways to avoid taxes — unless, as you point out, you sell your house within two years of buying it. Then the IRS considers it an investment — and taxes you at the same rate as any other capital gain, like stocks or bonds. Under the recently enacted tax cut, the rate on those capital gains goes down to 15 percent (or 10 percent if you’re in a low-income tax bracket.) You report the gain on Schedule D along with any other investment gains.

But, like just about every “rule” the IRS writes, this one has “exclusions” for people who sell their house in less than two years because of “change in place of employment, health, or unforeseen circumstances.” That may seem like plain English, but before you decide that clause applies to you, you should check with an accountant to figure out exactly what the IRS has in mind.

If you don’t qualify for the exclusions, don’t forget to mark up the “basis” price for your house to minimize the gain and reduce your final tax. Start with the price you paid for the house, plus closing costs, and then add the cost of any permanent improvements you made to the house or the yard. Check the rules carefully: new wall-to-wall carpeting counts, but painting the walls doesn’t. And even though the chance of an audit is low, try to dig out receipts. If you don’t have them, make a good faith estimate of the amounts and dates.

For more than you’ll ever want to know about taxes you may owe when you sell your house, check out IRS Publication 523: “Selling Your Home.”

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