Most sellers' hesitation in selling property, are the Capital Gains implications when selling their primary property.  Although we are not tax advisors and recommend that you meet with your tax advisor prior to listing the property to understand the tax penalties, below we will outline the basis of Capital Gains Tax.

Capital gains tax on a home sale in Santa Clara County, like anywhere else in California, involves both federal and state taxes. California does not have a separate capital gains tax; instead, capital gains are taxed as ordinary income at your regular state income tax rates.

Here's a breakdown of the key aspects:

1. Federal Capital Gains Tax:

• Exclusion for Primary Residence (Section 121): This is the most significant exclusion for homeowners.

  • You can exclude up to $250,000 of the gain if you are a single filer.

  • You can exclude up to $500,000 of the gain if you are married and file jointly.

  • To qualify, you must have owned and used the home as your main residence for at least two out of the five years leading up to the sale. These two years don't have to be continuous.

  • You generally cannot use this exclusion if you've excluded the gain from the sale of another home within the past two years.

• Tax Rates (for gains exceeding the exclusion):

  • Federal long-term capital gains (for assets held over a year) are taxed at preferential rates: 0%, 15%, or 20%, depending on your total taxable income.

  • Short-term capital gains (for assets held one year or less) are taxed at your ordinary income tax rates, which can range from 10% to 37%.

2. California Capital Gains Tax:

• Treated as Ordinary Income: California taxes all capital gains as ordinary income, regardless of whether they are short-term or long-term. This means there are no special lower rates for long-term gains at the state level.

• Progressive Income Tax Rates: Your capital gains are added to your other income and taxed according to California's progressive income tax brackets, which range from 1% to 13.3%. For very high earners (over $1 million), there can be an additional 1% mental health services tax, pushing the top rate to 14.4%.

How Capital Gain is Calculated:

Your capital gain is generally the difference between the sale price of your home and your "adjusted basis."

• Basis: This is typically your original purchase price.

• Adjusted Basis: You can increase your basis by adding the cost of significant home improvements (e.g., a new roof, additions) and certain selling costs (like real estate agent fees).

Example:

If you bought a home for $500,000 and sold it for $1,000,000, and you qualify for the $500,000 exclusion as a married couple:

• Gross Gain: $1,000,000 (sale price) - $500,000 (purchase price) = $500,000

• Taxable Gain (Federal): $500,000 (gross gain) - $500,000 (exclusion) = $0. In this scenario, you would likely owe no federal capital gains tax.

• Taxable Gain (California): Since California generally conforms to the federal exclusion for primary residences, if your federal taxable gain is $0 due to the exclusion, your California taxable gain would also be $0.

Important Considerations:

• Documentation: Keep meticulous records of your home's purchase price, closing costs, and any improvements you've made. These documents are crucial for calculating your basis.

• Unforeseen Circumstances: There are exceptions to the two-out-of-five-year rule for certain "unforeseen circumstances" like job relocation, health issues, or divorce, which may allow for a partial exclusion.

• 1031 Exchange: This is a strategy primarily for investment properties, allowing you to defer capital gains taxes if you reinvest the proceeds into a "like-kind" property. It generally does not apply to a primary residence.

• Inherited Homes: If you inherit a home, you typically receive a "step-up in basis" to the fair market value at the time of the decedent's death, which can significantly reduce or eliminate capital gains if you sell it soon after.

• Consult a Professional: Tax laws are complex and can change. It's always best to consult with a qualified tax professional or financial advisor to understand your specific tax liability and explore any strategies for minimizing taxes based on your individual situation.