Real Estate Capital Gains Tax: Rates, Exclusions & 1031 Exchanges

The federal real estate capital gains tax on property held longer than a year runs 0%, 15%, or 20% depending on your total taxable income, with an added 25% rate on any depreciation you previously claimed and a 3.8% surtax on higher earners. Property held a year or less is taxed at ordinary income rates that reach 37%. Homeowners selling a primary residence can often exclude up to $250,000 of gain, or $500,000 filing jointly, and investors can defer the entire bill through a like-kind exchange or spread it over years through an installment sale.

Figuring the Gain Before You Figure the Tax

The taxable gain is your amount realized minus your adjusted basis. Amount realized is the gross sale price less the costs of selling: agent commissions, title insurance you provided the buyer, attorney fees, recording charges, and transfer or stamp taxes. Sell for $600,000 and pay $36,000 in commissions plus $4,000 in other closing costs, and your amount realized is $560,000.

Adjusted basis starts with what you paid for the property, plus certain settlement costs from the original purchase: abstract and title search fees, legal fees for the deed and contract, recording fees, survey costs, transfer taxes, and owner’s title insurance premiums.¹ Financing-related costs (mortgage insurance, lender-required appraisals, loan origination points) do not add to basis.

Capital improvements you made during ownership also add to basis. These are costs that add value, extend useful life, or adapt the property to a new use, such as a new roof, a kitchen renovation, or an added bathroom. Routine maintenance like repainting or fixing a faucet does not qualify. Keep the receipts. Without them, an auditor can strip out improvements you can’t prove.

Depreciation Reduces Your Basis

If you rented the property out or used it in a business, you have to reduce basis by the depreciation you claimed, or should have claimed, over the years. Residential rental property is depreciated over 27.5 years using the straight-line method.² A $400,000 depreciable basis generates roughly $14,545 in annual depreciation, and ten years of that shaves about $145,450 off your basis. Lower basis, larger gain, larger tax bill—and a slice of that gain gets a special rate covered below.

A Worked Example

Buy a rental for $350,000, add $5,000 in allowable settlement costs, and spend $45,000 on a new roof and HVAC. Initial basis is $400,000. Claim $100,000 in depreciation over the years and adjusted basis drops to $300,000. Net amount realized of $550,000 produces a total capital gain of $250,000, of which $100,000 traces back to depreciation and gets its own treatment.

Federal Tax Rates on the Gain

A single sale can trigger up to three federal tax layers. The rate depends on how long you owned the property, your total taxable income, and whether you ever depreciated it.

Long-Term Rates for Property Held Over a Year

Long-term gains get the preferential 0%, 15%, or 20% rates based on your total taxable income for the year, not just the gain. For 2026:³

0% rate: taxable income up to $49,450 single, $98,900 married filing jointly, $66,200 head of household, or $49,450 married filing separately.
15% rate: income above those amounts up to $545,500 single, $613,700 married filing jointly, $579,600 head of household, or $306,850 married filing separately.
20% rate: income above the 15% thresholds.

Most sellers land in the 15% bracket. The 0% rate helps retirees or anyone whose income is unusually low the year of the sale. The 20% rate generally hits only high earners.

Short-Term Rates for Quick Flips

Own the property a year or less and the gain is short-term, taxed at your ordinary income rate. For 2026 those rates run from 10% to 37%.⁴ A $150,000 short-term gain at the top rate produces $55,500 in federal tax, nearly triple the 15% long-term bill on the same profit. The holding period starts the day after you acquire the property and includes the day you sell.

Depreciation Recapture at Up to 25%

Claim depreciation on rental or business property and the IRS wants that benefit back at sale. The portion of your gain equal to prior depreciation, called unrecaptured Section 1250 gain, is taxed at a maximum rate of 25% no matter which long-term bracket you otherwise fall into.⁵ Only the gain above the recaptured depreciation gets the standard 0%, 15%, or 20% treatment.

Back to the earlier example. Of the $250,000 gain, $100,000 is prior depreciation, taxed at up to 25% for $25,000 in tax. The remaining $150,000 is taxed at your applicable long-term rate. Many landlords underestimate this piece.

The 3.8% Net Investment Income Tax

Higher-income taxpayers face an additional 3.8% surtax on net investment income, and real estate capital gains count as investment income. The tax kicks in when modified adjusted gross income exceeds:⁶

$250,000 for married filing jointly or qualifying surviving spouse
$200,000 for single or head of household
$125,000 for married filing separately

The surtax applies to the lesser of your net investment income or the amount your modified AGI exceeds the threshold.⁷ These thresholds are not indexed for inflation and have held since 2013. Stacked with the 20% top long-term rate, the effective maximum federal rate on a long-term real estate gain is 23.8%, or 28.8% on the depreciation recapture portion.

Selling Your Home: The $250,000 or $500,000 Exclusion

The single most valuable break in real estate lets you exclude up to $250,000 of gain from the sale of your main home, or $500,000 if you’re married filing jointly.⁸ For most homeowners, this wipes out the capital gains tax on a home sale entirely.

The Two-Year Ownership and Use Tests

To qualify for the full exclusion, you must pass two tests during the five-year period ending on the sale date:⁹

Ownership test: you owned the home for at least two of the five years before the sale.
Use test: you lived in the home as your main residence for at least two of those five years.

Those two years don’t have to be continuous; a temporary move out doesn’t disqualify you as long as the total adds up to 24 months within the window. For married couples claiming the $500,000 amount, only one spouse needs to meet the ownership test, but both must meet the use test.⁸ You also can’t claim the exclusion if you already excluded gain from another home sale within the two years before the current sale.¹⁰

Selling Early: The Partial Exclusion

If you sell before hitting two years because of a job relocation, a health issue, or another unforeseen circumstance, you can claim a prorated exclusion. A qualifying work move requires the new job to be at least 50 miles farther from the home than your previous workplace. A qualifying health move must be tied to obtaining or providing medical care for you or a family member.

The partial exclusion equals qualifying months divided by 24, times the $250,000 or $500,000 cap. Fifteen months of qualifying use before a job transfer gives a single filer 15/24 × $250,000 = $156,250 of exclusion.

Rental Use and Home-Office Depreciation Still Get Taxed

If you used the home as a rental for part of your ownership, gain attributable to periods of non-qualified use after December 31, 2008, cannot be excluded.⁸ The taxable portion equals non-qualified-use months divided by total ownership months. Own a property ten years and rent it four before converting to your primary residence, and roughly 40% of the gain stays taxable.

Separately, the exclusion never applies to gain attributable to depreciation claimed after May 6, 1997, even on a primary residence.¹¹ Home-office depreciation or a rental period gets recaptured at up to 25% even if the rest of the gain is fully excluded. This catches many people who converted a former rental into their home.

Deferring the Tax With a 1031 Exchange

Investors can roll the gain into a replacement property through a like-kind exchange under Section 1031 rather than pay tax on the sale.¹² The tax isn’t forgiven; it’s deferred until you eventually sell the replacement property in a taxable transaction. Some investors chain exchanges for decades, deferring gain across multiple properties until death, when heirs receive a stepped-up basis that can eliminate the deferred gain.

Both properties must be held for investment or business use. Your personal home doesn’t qualify, and neither does property you hold primarily for resale, like a developer’s inventory. The IRS reads “like-kind” broadly for real estate: a single-family rental can be exchanged for an office building, raw land, or a warehouse.

The 45-Day and 180-Day Deadlines

A delayed exchange, the common structure, has two hard deadlines running from the day after you transfer the relinquished property. Within 45 calendar days you must identify potential replacement properties in writing. Within 180 calendar days you must close on the replacement. The 180 days runs concurrently with the 45, so identification eats into your closing window. Neither deadline extends for weekends, holidays, or anything else. Miss either by a day and the entire exchange collapses into a taxable sale.¹³

Qualified Intermediary and Boot

You cannot touch the sale proceeds during the exchange. A qualified intermediary holds the funds and uses them to buy the replacement. If the money passes through your hands at any point, the IRS treats it as constructive receipt and the deferral is lost.

To fully defer, the replacement property must be of equal or greater value, you must reinvest all net equity, and you must take on equal or greater debt. Any cash, debt relief, or non-real-estate property you receive is called boot and is taxable in the year of the exchange up to the amount of your realized gain.¹⁴

Spreading the Tax With an Installment Sale

Finance part of the sale yourself, carrying a note and receiving payments over multiple years, and you can spread the gain over the life of the loan rather than reporting it all in the sale year. Any sale where at least one payment arrives after the close of the tax year qualifies, though you can elect out and pay the full tax upfront.

The key number is the gross profit ratio: total gain divided by contract price. Apply that percentage to each principal payment to find the taxable portion. A 40% gross profit ratio makes $4,000 of every $10,000 principal payment taxable gain. Interest is reported separately as ordinary income. You file Form 6252 each year payments come in.¹⁵

Installment reporting is not available for inventory property or for sales that produce a loss. And depreciation recapture doesn’t get to spread; the full recapture amount is taxed in the year of sale regardless of when payments arrive.

Offsetting the Gain With Capital Losses

Capital losses from other investments, whether stocks, bonds, or other real estate sold at a loss, offset your real estate gain dollar for dollar. Long-term losses first offset long-term gains, short-term losses first offset short-term gains, and any leftover crosses over.¹⁶

If losses exceed gains for the year, you can deduct up to $3,000 of net capital losses against ordinary income, or $1,500 if married filing separately. Unused losses carry forward indefinitely.¹⁶ One limit worth knowing: losses on personal-use property, like selling your own home for less than you paid, are not deductible and cannot offset gains from other sales.

Basis for Inherited or Gifted Property

How you got the property changes your starting basis, and the difference can be huge.

Inherit real estate and your basis is generally the property’s fair market value on the date of the decedent’s death, not what they originally paid. A parent’s $80,000 home now worth $500,000 gives you a $500,000 basis. Sell it soon after for that amount and you owe nothing. The executor may pick an alternate valuation date six months after death if it lowers overall estate tax, and an estate that filed Form 706 should send you a Schedule A from Form 8971 with the value to use.¹⁷

Property received as a gift is different. The recipient carries over the donor’s adjusted basis and inherits the donor’s unrealized gain. Donor’s basis of $100,000 on property worth $400,000 at gifting means your basis for figuring a future gain is $100,000.¹⁷ There’s a wrinkle when fair market value at gifting is lower than the donor’s basis: you use the donor’s basis to figure a gain but the lower fair market value to figure a loss, and a sale price between the two produces neither.

Reporting the Sale and Paying What You Owe

The closing agent, usually a title company or attorney, files Form 1099-S with the IRS reporting gross proceeds. An exception applies if the seller certifies in writing that the property is a principal residence and the gain is fully excludable under Section 121.¹⁸

Capital gains and losses go on Form 8949, which feeds into Schedule D of your Form 1040.¹⁹ Like-kind exchanges go on Form 8824.¹³ Installment sales use Form 6252 in each year of payments.

A large sale can also trigger an estimated tax obligation. No federal tax is withheld from sale proceeds the way it is from a paycheck, so you may owe an underpayment penalty if you don’t make a quarterly estimated payment or otherwise meet the safe harbor. The safe harbor requires paying at least 90% of the current year’s tax or 100% of the prior year’s tax, rising to 110% if your prior-year adjusted gross income was over $150,000.²⁰ Close a sale late in the year and one estimated payment by the next quarterly deadline can be the difference between owing tax on April 15 and owing tax plus a penalty.

1
Internal Revenue Service. Publication 523, Selling Your Home
2
Internal Revenue Service. Publication 527, Residential Rental Property
3
Internal Revenue Service. Revenue Procedure 2025-32
4
Internal Revenue Service. IRS Releases Tax Inflation Adjustments for Tax Year 2026
5
Office of the Law Revision Counsel. 26 USC 1 – Tax Imposed
6
Internal Revenue Service. Topic No. 559, Net Investment Income Tax
7
Internal Revenue Service. Questions and Answers on the Net Investment Income Tax
8
Office of the Law Revision Counsel. 26 USC 121 – Exclusion of Gain From Sale of Principal Residence
9
Internal Revenue Service. Sale of Residence – Real Estate Tax Tips
10
eCFR. 26 CFR 1.121-2 – Limitations
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eCFR. 26 CFR 1.121-1 – Exclusion of Gain From Sale or Exchange of a Principal Residence
12
Office of the Law Revision Counsel. 26 USC 1031 – Exchange of Real Property Held for Productive Use or Investment
13
Internal Revenue Service. 2025 Instructions for Form 8824 – Like-Kind Exchanges
14
Internal Revenue Service. Like-Kind Exchanges Under IRC Section 1031
15
Internal Revenue Service. Form 6252 – Installment Sale Income
16
Internal Revenue Service. Topic No. 409, Capital Gains and Losses
17
Internal Revenue Service. Publication 551, Basis of Assets
18
Internal Revenue Service. Instructions for Form 1099-S
19
Internal Revenue Service. 2025 Instructions for Form 8949
20
Internal Revenue Service. Underpayment of Estimated Tax by Individuals Penalty