Capital Gains

What is a Capital Gain, how are they Taxed, and can they be Excluded or Deferred?

When venturing into the intricacies of selling real estate in the DMV area, understanding the dynamics of capital gains tax is paramount. The DMV region brings its own set of considerations, particularly with respect to federal implications. As always, we recommend discussing your home selling goals with your preferred Realtor before diving into the fast-paced and delicate process of selling your home!

Capital Gains Tax Fundamentals

Capital gains taxes revolve around the earnings from home and residential real estate sales. Put shortly, you gain capital when you sell an asset for more than what you paid for it originally. When delving into the specifics of long-term capital gains, the tax landscape reveals a nuanced structure. The rates fluctuate depending on income thresholds, typically falling within 0%, 15%, or 20%. It’s crucial to navigate this intricate tax scenario with a keen understanding. For higher-income individuals a 3.8% surtax comes into play, potentially impacting the overall tax liability. This surtax aims to address net investment income, adding a dimension of complexity for those with elevated income levels. It’s important to check with your tax advisor to see if your state is exempt from Capital Gains taxes.

Short-Term vs. Long-Term Capital Gains

What is the difference between short- and long-term capital gains? Short-term gains, arising from assets held for one year or less, are treated as ordinary income. In contrast, long-term capital gains, stemming from assets held for over one year, benefit from preferential tax rates.

Eligible Assets for Capital Gains

Capital gains apply to a wide range of assets known as capital assets. These encompass various categories, including real estate properties like homes and land, stocks, bonds, digital assets such as cryptocurrencies and NFTs (Non-Fungible Tokens), personal property like jewelry and coin collections, investment vehicles like mutual funds or exchange-traded funds (ETFs), and business assets such as machinery or equipment.

Exclusion Strategies

In the DMV area, sellers can leverage the Section 121 exclusion, allowing them to exclude a substantial amount—up to $250,000 for single filers and $500,000 for married couples filing jointly—from the gains on their primary residence, provided specific criteria are met. According to IRS.gov, in order to qualify for the Section 121 exclusion, you must meet 2 tests; 1) the ownership test and, 2) the use test. If you have owned and used your home as your main home for a period aggregating at least two years out of the five years prior to its date of sale, then you’d be eligible! You can meet the ownership and use tests during different 2-year periods. However, you must meet both tests during the 5-year period ending on the date of the sale. Generally, you’re not eligible for the exclusion if you excluded the gain from the sale of another home during the two-year period prior to the sale of your home.

Exploring advanced strategies such as a 1031 exchange is another avenue for sellers to defer capital gains tax by reinvesting proceeds from one property into another.

Sellers must navigate federal implications diligently. Understanding and utilizing available exclusions and strategic approaches can optimize the overall financial outcome when selling real estate in the DMV area. Always consult with your trusted Real Estate professional when looking to buy or sell your home to make sure you’re making the right decisions for your financial well-being. Don’t already have preferred Realtor? Connect with one of our agents today [MEET OUR AGENTS]