Gains and losses are part of life, certainly an inevitable aspect of investing in real estate (or anything else). How investors manage those gains and losses is part of the strategy. When an asset is worth more than you paid for it (your basis), you have a gain, and when it is worth less than your basis, you have a loss. However, that gain or loss is unrealized unless you dispose of the asset. Also, gains and losses are categorized by the IRS as short- or long-term.
When you sell a stock at a higher price than you paid for it, a profit is generated. In most cases, that profit is taxed. Specifically, if the profit is a realized gain, it is taxed. But when exactly does a profit become a realized gain?
Unrealized and realized capital gains are treated very differently on your annual tax return.
Investments that have increased in value and are sold for profit generate realized gains, which are subject to capital gains taxes. Unrealized gains, on the other hand, are theoretical paper gains that won’t be taxed unless you sell the investment for a profit.
Real estate investors know that capital gains taxes can take a pretty hefty bite out of the profits generated from the sale of their investment assets – that’s why many of them kick the tax can down the road by completing 1031 exchanges and deferring this tax liability.
Capital gains are one of the most important financial considerations to make when selling your property. Over the years, there have been plenty of exemptions that prevented consumers from having to pay capital gains taxes on certain sales. One of these was a home sale exemption for people over the age of 55. However, this exemption has not been in place since 2007.