Before the 1997 Taxpayer Relief Act, a person could face significant capital gains taxes on the sale of their house unless they upgraded to a more expensive house. With the passage of the Act, however, individuals can exclude up to $250,000 of capital gains from taxation, while married couples can exclude up to $500,000.
To qualify for the home sale capital gains tax exemption, you must have owned and lived in the residence for a total of two out of the last five years before the sale. That time does not have to be continuous, which would allow you to live in the house for the first year, rent it for three years, then live in it for the fifth year and still qualify.
This tax change was probably one of the single most important factors fuelling the housing bubble...if owners still had to upgrade to get the gain tax free that would've slowed things down a lot.
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