Life does not always go as planned. You might buy a house thinking you will live there for a time but then something unexpected happens. You might get a job in a different city or you might have a family emergency. If this happens to you, you will probably wonder what will happen if you sell your house before you have lived there for two years.
You can sell your house whenever you want. It might cost you more money in taxes. To help you understand this, we will break down the rules and taxes you need to know when selling a house before two years.
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When You Sell and What You Pay
If you want to know how selling your house will affect your taxes, here is a simple explanation.
- If you sell your house after owning it for less than one year, you will have to pay a lot of money in taxes.
- If you sell your house after owning it for one to two years, you will pay money in taxes.
- If you sell your house after owning it for more than two years, you will not have to pay any taxes on your profit up to $250,000 (or up to $500,000 if you are married). Any profit you make that exceeds those limits will still be subject to capital gains tax.
Understanding the IRS “2-in-5” Rule
The IRS has a rule that helps people who sell their houses. If you sell your house for more money than you paid for it, you will have to pay taxes on the profit you made. If you have lived in the house for at least two out of the last five years, you will not have to pay taxes on the first $250,000 of profit you made. If you are married, you will not have to pay taxes on up to $500,000 of profit you made.
If you sell your house before you have lived there for two years, you will not be able to take advantage of this tax break. This means you will have to pay money in taxes.
Selling Before 1 Year: The “Penalty” Phase
Some people might search online for the penalty for selling a house before one year. There is no penalty, but you will have to pay a lot of money in taxes. If you sell your house after owning it for less than one year, the profit you made will be taxed like the money you earn from your job. This means you will have to pay a lot of money in taxes up to 37% of the profit you made.
Selling Between 1 and 2 Years: A Lighter Tax Burden
If you can wait until you have owned your house for more than one year, you will pay less money in taxes. The profit you made from selling the house will be taxed at a rate of either 0%, 15%, or 20%. This is still a lot of money. It is less than what you would have to pay if you sold the house after owning it for less than one year.
Are There Exceptions? The IRS Hardship Rules
If you have to sell your house before you have lived there for two years, you might be able to take advantage of a tax break. The IRS has rules that help people who have to sell their houses because of unforeseen circumstances. For example, if you have to move for a job or if you have a health problem, you might be able to take advantage of a tax break.
To qualify for this tax break you will have to meet specific requirements. For example, if you have to move for a job, the job must be at least 50 miles away from your current home. If you have a health problem, a doctor must have recommended that you move.
Real-World Example:
Let’s say you lived in your house for one year before you had to move for a job. You would be able to take advantage of half of the tax break which is $125,000.
The Pre-Sale CPA Checklist: Questions to Ask Before You List
Before you sell your house, you should talk to a tax professional. They can help you understand the taxes you will have to pay and how you can take advantage of tax breaks. Here are some questions you should ask:
- What are my exact dates of ownership?
- Do my circumstances qualify for a partial Section 121 exclusion?
- What is the current ‘cost basis’ of my home?
- Can I offset any of these gains with capital losses?
- If I delay my sale by a few months, exactly how much money will I save?
- What is my estimated net payout after taxes?
Beyond Taxes: Hidden Costs of Selling Early
Selling your house before you have lived there for two years can be expensive. Here are two things you should consider:
- Closing Costs: You will have to pay the real estate agent commissions, title fees and transfer taxes. This can be up to 8% of the sale price of the house.
- Little to No Equity: If you have not lived in the house for long, you might not have built up much equity. This means you might have to pay cash out of pocket to close the sale.
Alternatives to Selling
If you do not want to sell your house before you have lived there for two years, you have a few options. You can rent out the house (though keep in mind this changes its tax status to an investment property), or you can wait until you have lived there for two years before selling. This can help you save money on taxes and closing costs.
The Bottom Line
You can sell your house before you have lived there for two years. It might cost you more money in taxes. To make a decision, you should understand the taxes you will have to pay and how you can take advantage of tax breaks. You should also talk to a tax professional. Consider the hidden costs of selling early.
