Buying a home is a usually a smart investment, unless the Internal Revenue Service (IRS) treats it like an investment. If the IRS decides that you bought a property as a short-term investment -- to "flip" it for a profit, in other words -- then it will charge a 20 percent capital gains tax on any profit you make from the sale.
The best way to protect yourself from capital gains tax on the sale of a home is to qualify the home as a long-term investment. The IRS uses two tests to determine if your home qualifies as a long-term investment: time and residency. If you owned the home for at least two out of the past five years, then you pass the time test. Similarly, if you lived in the home as your primary residence for at least two of the past five years, you pass the residency test.
If you're a single person and pass both the time and residency tests, then you're allowed to earn up to $250,000 in profit from the sale of your home -- tax-free. That's a nice chunk of change. But here's the kicker: If you're married, you can make up to $500,000 in profit from the sale of a home without paying a cent in capital gains.
The qualifying rules for married couples are even more lenient than for single homeowners. For a married couple, only one spouse has to own the house for two of the past five years. However both have to live in the house for at least two years [source:TurboTax]. As an added bonus, the IRS even counts the time that a married couple lived in the home before they were married. So if you lived together in a house for a year before you were married, you only have to live there for a year as a married couple to pass the residency test [source: FindLaw].
For lots more information about the marriage bonuses, income taxes and the IRS, explore the links below.
Author's Note: 5 Tax Benefits That Come With Marriage
I love my wife for reasons that I can't fully explain to the IRS. But I also appreciate the fact that the love of my life and the mother of my children is also a heck of a tax break. Since my wife has taken a pause from her career to raise our young children, we're a one-income family. And since the tax rates are significantly lower for married couples, my solo income keeps us in a lower tax bracket than if I was single. And how about those three kids! All of those sleepless nights and dirty diapers almost seem worth it when those personal exemptions and child tax credits kick in. Almost makes me want to move Father's Day to April 15.
- FindLaw. "The Home Sale Tax Exemption" (April 2, 2012) http://realestate.findlaw.com/selling-your-home/the-home-sale-tax-exemption.html
- Internal Revenue Service. "10 Facts About the Child Tax Credit." February 10, 2011 (April 2, 2012) http://www.irs.gov/newsroom/article/0,,id=106182,00.html
- Internal Revenue Service. "About EITC: Ranges" (April 1, 2012) http://www.eitc.irs.gov/central/abouteitc/ranges/
- Internal Revenue Service. "In 2012, Many Tax Benefits Increase Due to Inflation Adjustments." October 20, 2011 (April 1, 2012) http://www.irs.gov/newsroom/article/0,,id=248485,00.html
- Internal Revenue Service. "Publication 950" (April 2, 2012) http://www.irs.gov/publications/p950/ar02.html
- SmartMoney.com. "Spousal IRAs." February 9, 2012 (April 2, 2012) http://www.smartmoney.com/retirement/planning/spousal-iras-7956/
- Tax Policy Center. "Major Enacted Tax Legislation Since 2000" (April 2, 2012) http://www.taxpolicycenter.org/legislation/2000.cfm
- TurboTax. "Getting Married." 2011 (April 1, 2012) http://turbotax.intuit.com/tax-tools/tax-tips/Family/Getting-Married/INF12006.html
- U.S. Census Bureau. "Table 1335: Births to Unmarried Women by Country: 1980 to 2008" and "Table 1337: Single-Parent Households: 1980 to 2009" (April 2, 2012) http://www.census.gov/compendia/statab/2012/tables/12s1337.pdf
- Weston, Liz. MSN Money. "The myth of the marriage penalty." November 17, 2010 (April 2, 2012) http://money.msn.com/family-money/the-myth-of-the-marriage-penalty-weston.aspx
The most sweeping tax overhaul in decades became law in December 2017. HowStuffWorks explains what taxpayers can do to benefit from the tax changes.