The Underappreciated Tax Advantage of Home Ownership

Posted by J.R. Robinson Feb 2018

It has been my experience that the tax rules surrounding the sale of one’s primary residence are poorly understood. This piece aims to clear up common misconceptions, and to explain the extraordinary wealth accumulation benefits of home ownership.

Generally speaking, the first $250,000 of capital gains for an individual homeowner or the first $500,000 for a couple are exempt from capital gains tax. To qualify for this exemption, sellers must have lived in the house for at least two of the last five years prior to the sale. Further, if you have lived in your house for a while, and are fortunate to have experienced price appreciation above these limits, you should be aware that capital improvements you have made to your property may be added to your original purchase price in determining your cost basis. Such improvement expenses should, of course, be supported by documentation.

To clear up another common source of confusion, the capital gains tax exemption described above is not a one-time deal. As long as the seller(s) meet the IRS ownership and use tests, the seller(s) may reap this benefit each and every time the primary residence is sold. There is also no requirement that the proceeds be used to purchase a new house.

The mortgage interest deduction is also a commonly touted benefit of home ownership, and I have heard some pundits fretting about the impact of limiting the loan amount that may qualify for the interest deduction. In my opinion, such a limitation would do little to quell the remarkable tax advantage that home ownership affords. The ability to realize large tax free capital gains upon the sale of home is a unique benefit. Outside of retirement accounts, it certainly cannot be done with stocks or mutual funds.

IRS Publication - Topic No. 701 Sale of Your Home

Will I Pay Tax On My Home Sale? (The Balance)

The Big Capital Gains Tax Mistake Homeowners Make (Forbes)

Tax Aspects of Home Ownership: Selling a Home (Turbo Tax)

When capital gains tax applies to primary residence (Washington Post)