Do You Know the Top 10 Ways to Keep the IRS Away From Your Money When You Sell?

“Taxes owed are just unrealized income.”

~Mr. Wonderful

Some of the best tax strategies for sellers take months and even years to implement, so now is the time to start thinking about them. 

Capital Gains are the difference between what you paid for a home (your “basis”) and what you sell it for.

Capital Gains are taxed at approximately 33% in California. 

Since many home values have doubled, tripled, and even quadrupled in the last few decades, if you fail to plan ahead you may owe hundreds of thousands of dollars in taxes when you sell. 

The good news is that many ways to minimize your tax burden exist. 

Here are my top 10: 

1.  1031 Exchange

A 1031 exchange allows you to defer capital gains taxes by reinvesting proceeds from the sale of one investment property into another like-kind investment property.

Extra Credit: You can move out of your primary home, convert it into an investment property and then sell it as a 1031 Exchange and pay no capital gains tax. 

Extra Extra Credit: A 1031 can be combined with the Homeowner’s Exemption for a double-dip. (see below)

2. Homeowner’s Exemption

 When selling your primary residence, you may be eligible for the “home sale exclusion”, a.k.a. homeowner’s exemption, under IRS rules. This will allow you to exclude up to $250,000 per person, from any capital gains earned from the sale of your primary residence. To qualify if you must have lived in the house for two out of the last five years.  

Extra Credit: The 2 years do not have to be sequential and if you have lived in the home less than two years, you still qualify for a partial exemption.  

Extra Extra Credit: This exemption can be combined with a 1031 Exchange. (see above)

3. Deduct Capital Improvements

Capital improvements made to your property, such as renovations or upgrades, can be added to your property's cost basis, thereby reducing your capital gains when you sell.

4. Trusts and Estate Planning

 Setting up a trust or engaging in comprehensive estate planning can offer substantial tax-saving opportunities when selling property in California. Explore options such as Family Trusts or Charitable Remainder Trusts that align with your financial goals. If you plan to pass assets to heirs, consider gifting strategies that create a stepped-up cost basis for your beneficiaries.

5. Timing

Timing is crucial when selling property in California. Hold onto your property for at least one year to qualify for long-term capital gains tax rates, which are generally lower than short-term rates. Additionally, selling during a low-income year or when you're in a lower tax bracket can further minimize your tax liability.

6. Tax-Advantaged Accounts

Consider leveraging tax-advantaged accounts such as a Health Savings Account (HSA) or a Self-Directed IRA to fund your real estate purchase. These accounts offer tax benefits that can help reduce your overall tax liability.

7.  Installment Sales

Opting for an installment sale can help spread out your capital gains over several years, potentially reducing your overall tax liability. This strategy involves receiving payments from the buyer over time rather than a lump sum upfront.

8. Qualified Opportunity Zones

Investing your 1031 exchange monies into properties located in Qualified Opportunity Zones (QOZs) can provide the most significant tax advantages of any of these strategies. By reinvesting capital gains into QOZs, you can defer or potentially erase all of your capital gains taxes.

9. Use Capital Losses to offset your gains 

If you experience an investment loss in another sector, you can take advantage of it by decreasing the tax on your gains from the sale of your investment properties. 

10. Invest in a Delaware Statutory Trust

Tax planning should be an ongoing process and strategic planning will help you minimize the tax you pay when selling and maximizing the cash in your pocket.

Call us, and talk to a trusted real estate agent about these strategies well before you start thinking about selling.