Buying and selling Florida real estate can be intimidating enough, without having to worry about miscalculating or miss-managing your capital gains. Especially since it affects how much money you keep in your pocket. That’s why understanding Florida’s capital gains tax regulations is so very important. Both for those looking to sell property in Florida and the real estate agents representing them. While qualified Florida real estate lawyers are well versed in the state’s real estate capital gains tax and will look after your best interests throughout your closing, there are some basic time-sensitive conditions that can help you anticipate your best moves. Here’s the lowdown on the new capital gains rules and how to set up your best case scenario.
What is a Capital Gain?
A capital gain is the profit you earn from the sale of a capital asset, like stocks, bonds, and, key to our discussion here, real estate. Those profits are taxed by the government, hence capital gains tax. You only have to worry about paying capital gains taxes when an asset is sold.
There is no state capital gains tax in Florida, as the state has no state income tax at all. This applies even if you live out of state and own a summer home in Florida. But you are still subject to federal capital gains taxes when you sell your property. The precise rate you’ll end up paying depends on factors such as your income level and how long you’ve owned the property. The current tax rate is between 15-20% of the total sale value of the property.
There are two types of capital gains — short-term and long-term. Short-term capital gains tax is a tax on the profit you make from the sale of an asset you have owned for one year or less. A long-term capital gains tax is a tax on the profit you make from the sale of an asset you have held for over a year.
Both short-term and long-term capital gains are taxed based on your income tax bracket. Long-term capital gains are taxed at 0%, 15%, or 20%, according to graduated income thresholds, while short-term capital gains are taxed as ordinary income and that rate can go up to 37% in 2023. The average tax rate for home sellers reporting long-term gains is at 15% or lower.
Can You Minimize Your Tax Liability, or Avoid Paying Capital Gains Taxes altogether?
The answer to both questions is a resounding yes, provided you follow IRS rules and meet a few conditions.
The 2-Out-of-5-Year Rule
This rule lets an individual exclude up to $250,000 in capital gains taxes from the sale of a home and up to $500,000 for married couples that file jointly. But there are some stipulations. The biggest requirement for taking advantage of this exclusion is that you have to have owned the residence and lived in it for at least two years. The two years don’t have to be consecutive, however. You just need to prorate your exclusion based on the amount of time you actually occupied the home.
This can add up to considerable tax savings. For example, let’s say you bought a home for $800,000 and later sold it, without incurring extra expenses, for $850,000, for a profit of $50,000. Your short-term tax would be $16,000. Your long-term capital gains tax on the same property would be just $7,500.
There is also a suspension period during which you can exclude any of the profits from the sale of your home from capital gains taxes. This period begins on the day you enter a contract to sell your home and runs until the day the sale is completed.
To take full advantage of the 2-out-of-5 rule it is important that you keep accurate records of when you occupied the home. Not having the proper paperwork in order could complicate and delay your exclusion.
What About Rental/Investment Property?
Rentals, second homes and investment properties don’t have the same exemptions as homes that are being used as an owner’s primary residence, but you do have a few options available.
If you are selling a rental or investment property and purchasing another, you may be able to avoid paying capital gains tax entirely by doing what is known as a 1031 exchange. This lets you sell the property and reinvest the profits from that sale into another property without paying any taxes on the sale.
You could also make the property your primary residence for two of the five years before selling the home. That would qualify you for the capital gains exclusion.
Attorneys David E. Klein, Esq. and Guy Rabideau, Esq. at Rabideauklein.com. are Florida Bar Board Certified in Real Estate Law. They have the expertise and experience you need to ensure that your interests are protected throughout your real estate transactions across the Palm Beaches and throughout the State of Florida. Contact Rabideau Klein today to discuss the legal implications of your upcoming Sunshine State property transaction.