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Say you made a profit of $80,000 on the sale of your home. How much federal income tax do you owe on it? Probably none.
In fact, thanks to the Taxpayer Relief Act passed in 1997, single taxpayers can realize up to $250,000 and married couples up to $500,000 of profit on a house sale without having to pay any federal income tax on it. Most people's house sale profits fit well under these limits.
 | As long as the house that you're selling has been your principal residence for at least two of the previous five years, you can take the tax exclusion at any age and for as many times in your life as you want (but not more than once every two years). There are no restrictions on what you must do with the profits; you can trade up, trade down, dump it all in the stock market, stuff it all under the mattress . . . it's up to you. |
 | The old rules were much more restrictive: Before, if you were under age 55, you couldn't exclude any gain from federal income taxation; you could only defer it by purchasing a replacement residence that cost at least as much as the one you sold. If you were older than 55, you could take an exclusion, but it was only for $125,000 and only a once-in-a-lifetime deal. |
Here are some other important rules and insights regarding the Taxpayer Relief Act:
- For a married couple to qualify for the $500,000 exclusion, both spouses must individually meet the qualifications. That is, each spouse must have lived in the house for two of the previous five years, and neither spouse can have taken an exclusion on another house sale during the previous two years. If only one spouse qualifies, then the couple is allowed only a $250,000 exclusion.
- If you fail to meet the two-year requirements because of an unexpected move relating to your job, your health, and so on, you're still entitled to a prorated amount of the exclusion based on how much time of the two-year requirement you were able to meet. For example, if you're forced to sell after only one year and you meet the other requirements of this tax break, you're entitled to half the capital gains exclusion ($125,000 for a single person and $250,000 for a married couple filing jointly).
- How you hold title to the property affects your capital gain when the owner dies. If you hold title to your house as a joint tenant with another person, you get a stepped-up basis for tax purposes on half the property when the other joint tenant dies. If the title to the house is held as community property, both halves of the house get a stepped-up basis when one spouse dies. See a good tax/legal advisor for more details.
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