Capital gains tax is the money that is owed on the profits made from capital investments like stock or real estate. While many exceptions to rules and deductible expenses exist in the vast Tax Code, profit on the sale of a house is generally calculated by subtracting the cost of the home from the sale price. In the case of a gifted home, the cost is generally the fair market value of the home when it was acquired. Real estate has tended to be an appreciating investment over the long term in the United States--therefore, profits can be large and taxes can be substantial. In recognition of the dual nature of a taxpayer's primary residence as not only an investment but also as basic shelter, an exclusion to this tax exists for people who are selling their main home. Under the right conditions, you can avoid paying capital gains selling a gifted house.
Receive a house as a gift from someone. The "cost" of the house, to be used when it is sold, is its fair market value at the time of the gifting.
Hire an attorney to guide the gifting of the home.
Take possession of the gifted home.
Move into the house and live in it as your primary residence for at least two years. The 2-year requirement does not have to consist of 24 consecutive months. In fact, the time can be spread out over a 5-year window.
Exclude $250,000 of the gain if, over the last 5 years, you have owned and lived in the home as your primary residence for at least 2 years and have not claimed a similar exclusion for at least 2 years.
Learn more about deductions and rule exceptions like "Exclusion Amounts for Married Couples" to see if they apply to you. Visit the IRS website to begin your reading (see Resources below).
Sell the house using the exclusion.
Calculate your profit on the sale.
Use the exclusion rule to avoid paying capital gains tax on the profit from the sale.
Consult a tax professional for advice and guidance to help avoid paying capital gains tax when selling a gifted house. Read tax publications provided by the IRS that are related to capital gains on a gifted house.
There is currently a $1,000,000 lifetime exclusion limit on gifting. Prepare returns carefully. Tax evasion is a serious crime.