9 Tax Traps To Watch Out for Before You Sell Property
Written by
Jordan Rosenfeld
Edited by
Molly Sullivan
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Selling a property can feel like a financial win, especially after years of rising home values. But what many sellers don’t realize is that the tax side of a sale can be more complicated than the transaction itself.
A handful of rules, deadlines and overlooked details can affect how much profit you actually keep. And while most people assume taxes will be straightforward, experts said the reality is often very different.
Experts explained nine tax traps to watch out for before you sell property.
1. Misunderstanding the Capital Gains Exclusion
Many sellers assume every dollar of profit they earn on a property sale will be tax-free, but the home sale exclusion has rigid rules.
“To qualify for the full exclusion, you must meet both the ownership and use tests during the five-year period,” according to Louis Rogers, founder and co-CEO of Capital Square. “You must have owned the home for at least two years and lived in the home as your main residence for at least two years.”
Otherwise, gains over $250,000 (for single filers) and $500,000 (for joint filers) are taxed at 15% and 20% plus are subject to a 3.8% net investment tax, according to Venkat Godavari, a senior tax specialist at Parikh Financial. Selling too soon or after long vacancy can wipe out the exclusion completely, he noted.
2. Jumping Into a Higher Tax Bracket
Capital gains tax seems simple, but your taxable profit builds on top of your earnings for the year. That can bump you into a higher tax bracket, trigger the 3.8% net investment income tax, and raise your state liability.
“The calculation is simple,” Godavari explained. You’ll take the sale price, deduct the purchase price plus improvements and selling costs. “The difference is the taxable capital gains.”
Don’t forget as well that “your profit gets added to all your other income for that year,” according to Geoff Knight, founder and CEO of File Tax Online, which can push you into higher tax brackets and trigger that extra 3.8% tax on investment income.
3. Losing Thousands to Depreciation Recapture
Landlords and Airbnb hosts often overlook depreciation recapture, which forces you to repay up to 25% of all depreciation taken, Godavari explained. The surprise bills can be steep.
The government also makes you pay back 25% of all those tax breaks even if you forgot to claim depreciation, Knight added.
4. Selling Too Soon — or After Too Long a Vacancy
Timing rules on both primary residences and investment properties can make or break your tax savings, too. “If you sell the house before two years of ownership or use, you lose the exclusion. If you wait for more than three years after vacating the property, the exclusion lapses,” Godavari said.
Investment properties must be held for investment to qualify for Section 1031, Rogers explained, so, “It is prudent to hold long enough to straddle two tax years.”
5. Confusing Repairs With Improvements
Your tax bill is based on how much profit you make from the sale, and that number changes depending on what you’ve put into the property. “You can add capital improvements such as kitchen remodeling to the purchase price,” Godavari said. However, repairs do not qualify. Though you may be able to deduct some of those improvements, Rogers noted. Many sellers mix the two up and end up paying more in taxes than they need to.
6. Making a Mistake on a 1031 Exchange
A 1031 exchange lets you sell one investment property and buy another without paying taxes right away. It can save you a lot of money, but the rules are strict. “Do not miss the 45-day identification or 180-day closing deadline. You lose the exclusion,” Godavari warned.
7. Underestimating State-Level Taxes and Transfer Fees
Federal taxes are only part of the bill. Some states tax gains as high as ordinary income, and local transfer taxes can add 1% to 3% or more. Sellers relocating from low-tax areas often get hit hardest.
“States like California tax capital gains at ordinary income tax rates (up to 13.3%). Transfer taxes and surcharges also apply,” Godavari said.
Knight added that New York charges 10.9% while states like Florida, Texas and Nevada have no state income tax.
8. Failing To Document Selling Costs
Selling costs can dramatically reduce taxable gains, but only if you document them properly. Many sellers leave money on the table by forgetting receipts.
“You can deduct agent commissions, title fees and escrow and legal fees, Godavari said, “but you must provide documentary evidence like receipts.”
Rogers also stressed the importance of taxpayers keeping accurate records, especially in case of an audit years later.
9. Overlooking 2025-26 Rule Changes
Godavari explained that while the main home-sale tax break is staying the same, other rules for investors are shifting. The IRS is cracking down on how depreciation is handled, for one. People with incomes above $100,000 won’t be able to use as many rental-loss deductions and anyone doing a 1031 exchange will deal with stricter reporting requirements.
Otherwise,“the basic rules are popular and unlikely to change much,” Knight said.
With the right preparation, you can avoid these tax pitfalls and make the most of your home or investment property sale.
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