If you’ve ever watched high-end home flipper Jeff Lewis on his television show Flipping Out, you may find it curious that someone who is such a neat-freak would be willing to live for months on end in a massive construction zone while he renovates his latest flipping project. One possible reason he may be willing to do this is a benefit in the tax code for the sale of a home used as a primary residence after a period of time.
Have a home you have lived in as a primary residence for at least 2 of the previous 5 years? If you are married, you can exclude up to a $500,000 capital gain on the sale of your home from taxes. If single, up to $250,000. So suppose you live in your home as a primary residence for 3 years, you bought it for $250,000, and later sold it for $320,000. No tax is due on that $70,000 profit.
This benefit can also be used advantageously by those renovating homes. Consider the following scenario:
You purchase a fixer-upper for $95,000. You invest $15,000 into rehabbing the property. After renovations you are into the property for $110,000. Post-renovation the property is worth about $130,000 based on what other homes sell for in the neighborhood. You live in the property for a few years, and with some price appreciation, you sell the property for $155,000 – after living in it as a primary residence for 2 1/2 years. You have a gain on the property of $45,000 – and that gain is tax-free. If you had sold the house immediately after renovating it, when it was worth $130,000, you would have had a gain of $20,000 and with a 28% capital gains rate, you would have paid $5,600 in taxes, for a post-tax gain of $14,400.
For higher dollar homes in areas with high-appreciation, this can make an even bigger impact. Suppose you are married and purchase a home for $900,000. You put $200,000 into renovations to turn it into your dream home, so you are now into the home for $1.1 million. You live in the home for about 4 years when you are offered a promotion and have to move out of state. The real estate market has been hot and your home has also appreciated. You put the house on the market and sell it for $1.6 million. Now you have a $500,000 gain, which is tax-free. Had you had sold the home having a $500,000 gain but didn’t have it as a primary residence, you would have paid $140,000 in taxes on the sale of the same home.
This article does not constitute tax advice. Consult a financial adviser, accountant, or tax attorney for tax-related matters.
