We sold a house (capital gain=$158K). In a lower tax bracket (our income=$20K), we should be taxed 0% on long term cap gains. Your software says we owe $28K tax. Why?

[alliro]

The $158K includes depreciation recapture of $33K (added onto our net) but does not include $46K in refurbishment expenses (we entered it, but it is not being included in the cost basis calculations).

[MichaelL1 · Accepted solution]

There are a couple things going on.

First the depreciation recapture is ordinary income, not subject to capital gain treatment.

2nd is while you were in 0% capital gains, the capital gains and depreciation recapture has pushed you up to higher tax bracket, causing the capital gains to become taxable. 

Last issue is you need to get the basis corrected on the house to correctly compute the gain.

Did you live in the house as a personal residence for 2 of the past 5 years?  This would change this tax impact greatly if you did.