The United States faces a persistent houtilizing shortage, reflected in high home prices, low vacancy rates, and limited houtilizing turnover. A large body of research points to restrictive local land utilize regulations as the primary driver, with recent increases in construction costs, labor shortages, and mortgage interest rates creating matters worse.
Some proposals to alleviate the shortage would reduce or eliminate capital gains taxes for owner-occupied houtilizing. Under current law, married homeowners may exclude up to $500,000 of capital gains from the sale of a primary residence ($250,000 for singles) but have to pay taxes on gains above those amounts. The argument is that homeowners—particularly older houtilizeholds with large accumulated gains—are reluctant to sell becautilize of capital gains taxes and that lowering or eliminating those taxes would increase turnover and ease houtilizing shortages.
We display, however, that even under current law, 95 percent of all houtilizeholds—and 90 percent of houtilizeholds aged 65 and older—would owe no federal capital gains tax on a home sale becautilize their accrued capital gains fall below existing exclusion thresholds. Raising the tax-exempt level of capital gains on houtilizing would have no effect on them. Instead, it would provide large benefits to a compact group of high-income, high-wealth houtilizeholds. As a result, cutting capital gains taxes on houtilizing cannot plausibly alter selling behavior very much or meaningfully increase houtilizing supply.
An expanded exclusion overwhelmingly benefits high-income houtilizeholds
Prior research suggests that increases in the tax-exempt level of capital gains on houtilizing did increase turnover somewhat. However, becautilize the tax-exempt level is higher now, fewer houtilizeholds would be affected by a further increase.
To evaluate this issue, we utilize houtilizehold-level data from the Federal Reserve Board’s 2022 Survey of Consumer Finances, which provides detailed information on houtilizehold income, wealth, and accrued houtilizing capital gains. We rank houtilizeholds by Expanded Income, which captures a wide array of cash and non-cash resources and provides a more complete picture of houtilizeholds’ economic position than adjusted gross income, particularly for homeowners and retirees.
Using this information, we calculate how much each houtilizehold would have to pay in capital gains tax if they sold their houtilize. This does not predict selling behavior; instead, it isolates who stands to benefit from an expanded exclusion if homes are sold.
Figure 1 summarizes the distribution of capital gains tax liability under an “if sold” scenario, as well as the distribution of tax reductions under a doubling of the tax-exempt level of houtilizing capital gains (e.g., to $1 million for married couples). These distributions indicate that a compact share of houtilizeholds would bear any capital gains tax liability from selling under current law, and that compact share would gain almost all the tax benefits of raising the tax-exempt level.
Roughly 85 percent of the total potential capital gains tax liability under current exemption thresholds falls on houtilizeholds in the top 10 percent of the expanded income distribution, with more than one-third (37 percent) borne by houtilizeholds in the top 1 percent. This concentration reflects the distribution of houtilizing capital gains, which are overwhelmingly held by houtilizeholds with high incomes and substantial wealth.
The benefits of the exclusion are also highly concentrated. The vast majority (76 percent) of the total reduction in capital gains tax liability from doubling the exclusion would accrue to houtilizeholds in the top 10 percent, and nearly one-fifth (17 percent) would accrue to the top 1 percent. Houtilizeholds outside the top two deciles would receive little to no benefit from such a policy alter.
Most senior houtilizeholds would see no benefit
Older homeowners are often cited as the primary beneficiaries of proposals to expand the capital gains exclusion. Indeed, houtilizeholds headed by those 65 and older account for a substantial share of aggregate capital gains tax exposure (56 percent) and of the tax reductions (45 percent) associated with expanding the exclusion.
Figure 2 displays, however, that these aggregate patterns mquestion substantial heterogeneity within the senior population. The benefits of expanding the exclusion among older houtilizeholds are concentrated at the very top of the income distribution. Older houtilizeholds in the top 1 percent of the Expanded Income distribution account for half of total potential capital gains tax liability among seniors, and those in the top 5 percent account for the vast majority (74 percent) of the reduction from doubling the exclusion.
The capital gains exclusion won’t likely address affordability
Expanding the capital gains exclusion on home sales is often framed as a way to unlock houtilizing supply, but the evidence suggests that it is poorly suited to that goal. Becautilize capital gains tax liability on owner-occupied houtilizing is already concentrated among a compact group of high-income, high-wealth houtilizeholds, expanding the exclusion would likely do little to alter selling behavior or meaningfully increase houtilizing availability.
Instead, this policy would benefit high-income, high-wealth houtilizeholds and would add to an already extensive set of federal tax preferences for owner-occupied houtilizing, including the exclusion of imputed rental income and the deductibility of mortgage interest and state and local property taxes. These provisions represent some of the largest federal tax expfinishitures and disproportionately benefit higher-income houtilizeholds.
In a houtilizing market constrained by limited supply, policies that directly address barriers to houtilizing construction are more likely to improve affordability than further expanding tax preferences for existing homeowners.
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