Could Downsizing Trigger a Capital Gains Tax Bill? What Maryland Homeowners Need to Know

If you bought your Maryland home 20, 30, or 40 years ago, you may be sitting on far more home equity than you realize.

That is good news.

But if you are thinking about downsizing in Montgomery County, Howard County, or Prince George's County, there is a tax issue worth understanding before you put the house on the market.

A federal tax rule can allow homeowners to exclude as much as $250,000 or $500,000 of gain when they sell their primary residence.

The problem?

Those limits have not kept pace with decades of rising home values.

For longtime Maryland homeowners, that can turn what looks like a simple downsizing decision into a much bigger financial planning decision.

Section 2

Why This Matters When You Downsize

Imagine you bought your home in Montgomery County many years ago for $225,000.

Today, suppose it could sell for $950,000.

At first glance, you might think: "Great. I made $725,000."

But calculating taxable gain isn't quite that simple.

Your taxable gain generally depends on several numbers, including your purchase price, certain acquisition and selling costs, qualifying improvements, depreciation in some situations, and the home-sale exclusion.

That is why homeowners should not simply subtract the original purchase price from today's sales price and assume that number is taxable.

But the example shows the potential issue. A homeowner who bought decades ago can have hundreds of thousands of dollars of appreciation. And once the gain exceeds the available exclusion, some of it may be taxable.

Section 4

The Box of Old Receipts Could Be Worth Thousands

This may be one of the most overlooked parts of downsizing.

Before throwing away decades of paperwork, stop. Some of those old records could matter.

Certain improvements can increase your home's adjusted basis, which can reduce the gain calculated when you sell.

Think about improvements such as:

• Kitchen renovations
• Bathroom renovations
• Additions
• A new roof
• HVAC systems
• Certain new windows
• Electrical upgrades
• Plumbing improvements
• Decks
• Major landscaping improvements
• Certain accessibility improvements

Not every repair or maintenance expense counts. But qualifying capital improvements can matter.

A couple in Bethesda who bought their home in 1995 for $280,000 and invested $85,000 in kitchen and bathroom renovations over the years would have an adjusted basis of $365,000, significantly reducing their taxable gain when they sell.

Create a "house basis file" and search old closing records, bank statements, contractor invoices, credit-card records and permits for evidence of improvements.

The IRS specifically provides worksheets for determining the adjusted basis of a home when calculating gain.

Before cleaning out the house, look for:

Original purchase documents.

Then look for invoices, contracts, permits, cancelled checks and other records showing substantial improvements.

Don't decide yourself what counts.

Save the records and give them to your CPA.

Let the tax professional decide.

Section 6

Maryland Added Another Capital-Gains Rule

Maryland homeowners should also know about a state tax change.

Beginning with tax year 2025, Maryland imposed an additional 2% tax on certain net capital-gain income for taxpayers meeting the applicable income requirements.

But there is an important homeowner exception.

According to the Maryland Comptroller, capital gain from a qualifying primary residence sold for less than $1.5 million is excluded from this additional 2% tax.

That does not mean every Maryland home sale under $1.5 million is completely tax-free.

It means that qualifying primary-residence sales are exempt from this particular additional 2% Maryland capital-gains tax.

That distinction matters.

While you are reviewing your tax situation, check which Maryland property tax credits you qualify for as a senior homeowner, since those can affect your overall downsizing math.

Section 8

Could Washington Change the $250,000 and $500,000 Limits?

Possibly.

There has been political pressure to address the effect inflation has had on capital-gains taxation.

That could eventually lead to changes in how capital gains or cost basis are calculated.

But proposals, letters from lawmakers and political discussions are not the same thing as tax law.

As of this article's publication, homeowners should plan around the law that actually exists today rather than assuming Washington will change it before they sell.

If the law changes, your CPA can adjust the strategy.

Checklist

A Simple Downsizing Tax Checklist

Before listing a longtime home in Montgomery County, Howard County or Prince George's County:

1. Find your original home-purchase closing documents
2. Gather records of major improvements
3. Ask a real estate professional for a realistic current market value
4. Estimate the likely selling expenses
5. Ask your CPA to estimate your adjusted basis
6. Determine whether you may qualify for the $250,000 or $500,000 federal home-sale exclusion
7. If you are widowed, ask about both the surviving-spouse exclusion rules and possible basis adjustments
8. If the home was ever rented or used for business, tell your CPA
9. Have your CPA estimate the possible federal and Maryland tax impact
10. Compare your estimated net proceeds, not just the sales price, with your downsizing options
11. Then decide whether selling now makes financial sense

To get a complete picture, understand the real costs of downsizing beyond taxes and factor in every expense from closing costs to moving.