Selling Your Home in Retirement: What It Means for Your Taxes

Retired couple planning a move from their longtime home to a smaller home

Selling a home in retirement can create welcome financial flexibility. You may be able to reduce maintenance costs, move closer to family, or use the proceeds to support your retirement lifestyle.

But a home sale can also affect more than your bank account. It may change your federal and state taxes, retirement income strategy, Medicare premiums, and plans for leaving assets to your family.

This guide explains the main issues to consider as part of your tax planning for homeowners.

Start with the home-sale exclusion

The federal tax code may allow you to exclude some or all of the gain from selling your primary residence:

  • Up to $250,000 for a single taxpayer or someone filing separately
  • Up to $500,000 for a married couple filing jointly

This is an exclusion of your profit, not the total sale price. For example, selling a home for $600,000 does not automatically mean you have a $600,000 taxable gain.

To generally qualify for the full exclusion, you must meet the IRS ownership and use tests:

  1. You owned the home for at least two years during the five-year period before the sale.
  2. You used the home as your main residence for at least two years during that same five-year period.
  3. You generally did not claim the home-sale exclusion for another home during the previous two years.

For a married couple filing jointly, either spouse generally must meet the ownership test. However, both spouses generally must meet the use test to qualify for the full $500,000 exclusion.

You may qualify for a partial exclusion if you sell because of certain work-related, health-related, or unforeseen circumstances. The rules can be complicated, especially if the home was previously rented, used for business, inherited, or owned by one spouse before marriage. Review the IRS rules for selling your home before making assumptions.

Know your basis before you sell

Your taxable gain is generally calculated using this basic formula:

Sale price − selling expenses − adjusted basis = gain

Your adjusted basis begins with what you paid for the home. It may also include certain purchase-related costs and qualifying improvements.

Costs that may increase your basis

Your basis may include:

  • Original purchase price
  • Certain legal, recording, survey, and title fees paid when you bought the property
  • Transfer or stamp taxes paid as part of the purchase
  • Room additions
  • A new roof
  • Major kitchen or bathroom remodeling
  • New plumbing, electrical wiring, heating, or air conditioning systems
  • A garage, deck, patio, driveway, fence, or other permanent improvement
  • Special assessments for local improvements that increase the property’s value

Selling expenses, such as real estate commissions, advertising, and certain legal fees, generally reduce the amount realized from the sale.

Routine repairs usually do not increase basis. Painting, fixing a small leak, or replacing broken hardware may be considered maintenance rather than a capital improvement.

Organized home improvement receipts and tax documents for calculating adjusted basis

Save your improvement receipts

Many homeowners have made improvements over decades but no longer have the receipts. That can make it harder to prove a higher basis and may result in reporting a larger gain than necessary.

Keep:

  • Contractor invoices
  • Receipts for materials
  • Building permits
  • Closing statements
  • Before-and-after records
  • Records of major repairs and renovations
  • Documentation for special assessments

The IRS recommends keeping basis records until at least three years after the due date of the tax return for the year you sell. For an older home, it is often wise to keep these records longer.

The IRS Publication 523 worksheet can help you organize the numbers.

Property taxes and the SALT cap

Property taxes usually do not increase your home’s basis. Ordinary annual property taxes are generally handled separately as potential itemized deductions on Schedule A.

The deduction may be limited by the federal state and local tax, or SALT, cap. The cap combines certain state and local income taxes, sales taxes, and property taxes. It also only helps if your total itemized deductions are greater than your standard deduction.

The SALT rules do not change the basic calculation of your home-sale gain. Property taxes you could not deduct because of the cap generally cannot be added to your basis simply because they were paid.

One exception may involve a special assessment for a local improvement, such as a new sewer line or sidewalk. A qualifying assessment may be treated as a capital cost rather than an ordinary property tax.

The tax treatment of property taxes near the closing date can also depend on how the buyer and seller divide the bill. Keep your closing statement and final property-tax records for your tax preparer.

Downsizing into a smaller home

Downsizing may lower your mortgage, utilities, insurance, repairs, and property taxes. It may also free up equity for retirement income.

Before you make an offer on a smaller home, estimate the full cost of the move:

  • Selling commissions and closing costs
  • Repairs or improvements needed before listing
  • Moving and storage costs
  • Purchase closing costs on the new home
  • New property taxes and insurance
  • Homeowners association fees
  • Mortgage or home-equity payments
  • Furnishings and accessibility modifications

The purchase of your next home does not automatically defer tax on the gain from your former home. The old “buy another home and avoid capital gains tax” rule no longer generally applies. The home-sale exclusion is based mainly on your ownership, use, and prior exclusion history.

Older couple organizing a downsizing move into a smaller, accessible home

Renting instead of selling

Some retirees consider keeping their current home as a rental. This can create ongoing income and preserve a property for the family, but it also adds responsibilities and tax issues.

Rental income may be taxable, and you may need to report expenses and depreciation. Depreciation claimed: or depreciation that you were allowed to claim: can reduce your basis. When you eventually sell, some of the gain related to depreciation may not qualify for the home-sale exclusion.

Renting the home after it stops being your primary residence can also affect the calculation of the gain eligible for exclusion. The timing matters. You should review the plan before moving out, not after the property has been rented for several years.

Ask:

  • Will the rent cover property taxes, insurance, repairs, and management?
  • Who will handle maintenance?
  • What happens if the property is vacant?
  • How will rental depreciation affect a future sale?
  • Do you want the responsibility of being a landlord in retirement?

Sometimes selling is simpler and produces more predictable retirement cash flow. Other times, renting may fit a broader income or legacy plan.

Moving to another state

A retirement move can involve two sets of state tax rules: the state you are leaving and the state where you become a resident.

If you sell a home located in North Carolina, North Carolina may have a claim to tax North Carolina-source income even if you move before the sale. Your new state may also have rules for residents who receive income during the year.

States differ in how they treat:

  • Capital gains
  • Retirement account withdrawals
  • Social Security benefits
  • Pension income
  • Property taxes
  • Estate and inheritance taxes
  • Tax credits for taxes paid to another state

If you are moving, compare the timing of your move, listing, closing, and change of residency. Keep records showing when you lived in each state. A state tax professional can help identify filing requirements before the transaction is complete.

A home sale can affect retirement income

The money left after paying off a mortgage, selling costs, and taxes may become an important retirement resource. You may use it for:

  • A new home
  • Emergency savings
  • Long-term care
  • Travel and lifestyle spending
  • Charitable giving
  • Gifts to children or grandchildren
  • An investment or annuity designed to provide regular income

Avoid focusing only on the gross sale price. Build a plan around the after-tax proceeds and how long that money needs to last.

For example, using all of the proceeds for a new home may reduce your monthly expenses but leave less money available for healthcare or future needs. Investing everything may create market risk. An annuity may provide predictable income, but it also has costs, limitations, and contract terms to review.

Retirement income and legacy planning documents beside a calculator

Watch for Medicare IRMAA

A large taxable gain from a home sale can increase your modified adjusted gross income, or MAGI. Medicare uses MAGI from a prior tax return to determine whether you owe an income-related monthly adjustment amount, known as IRMAA, on Medicare Part B and Part D premiums.

This often means a gain from a home sale can affect Medicare premiums about two years later. A one-time gain may create a temporary increase, but the impact can still be significant.

The home sale itself generally is not automatically a qualifying life-changing event for reducing IRMAA. However, a separate event: such as retirement, work reduction, divorce, or the death of a spouse: may provide a basis for requesting a new determination. You can review the official Social Security IRMAA information and discuss your circumstances with a qualified tax professional.

Include the sale in your legacy plan

Selling a home can change what your heirs receive. It may also change the type of assets you leave behind.

For example, your estate may include:

  • Cash from the sale
  • A smaller home
  • An annuity
  • Life insurance proceeds
  • Retirement accounts
  • Investment accounts

Consider whether your current will, trust, powers of attorney, and beneficiary designations still match your wishes. Also consider whether selling the home changes how you want to divide assets among children or other family members.

This is an important part of legacy planning for seniors. Your tax plan, insurance plan, and estate plan should work together rather than being handled separately.

Plan before you list

Selling your home in retirement is more than a real estate decision. Before signing a listing agreement, gather your purchase records, improvement receipts, mortgage information, property-tax records, and estimated selling costs.

Then review:

  • Whether you qualify for the $250,000 or $500,000 exclusion
  • Your estimated taxable gain
  • State tax consequences
  • The effect on retirement income
  • Possible IRMAA changes
  • Whether renting or selling better fits your goals
  • How the transaction affects your estate and legacy plan

Mackey Tax and Financial Services provides year-round tax preparation and tax planning, along with insurance solutions for retirees, including life insurance, annuities, Medicare Advantage plans, and cancer plans. We can help you look at the tax and financial decisions together.

Visit mackeytaxes.com or call 828-351-7205 to schedule a conversation before you sell.

This article is for general educational purposes and is not a substitute for individualized tax, legal, investment, or insurance advice. Tax laws and Medicare rules can change, so review your specific situation before taking action.