Kentucky capital gains tax on real estate is now a flat 3.5%: House Bill 1 of 2025 cut the individual rate from 4% for tax years beginning on or after January 1, 2026, and gains are taxed like wages. A 1031 exchange in Kentucky defers that 3.5% and, far more important, the federal tax on the sale; it does not defer the $0.50 per $500 transfer tax the seller pays when the deed records.
Reviewed by Jon Hilley, CEO & Founder of 1031 Specialists. Last reviewed September 29, 2026.
| State tax on real estate gains | Flat 3.5% for tax years beginning in 2026 (4% for 2025) |
|---|---|
| Long-term capital gains treatment | No reduced rate; taxed as ordinary income |
| Nonresident withholding at closing | None for individual sellers; nonresidents report the gain on a Kentucky nonresident return |
| Withholding form | None for real estate sales |
| Transfer or conveyance tax (a 1031 does not defer it) | $0.50 per $500 of value (0.10%), paid by the grantor |
| Clawback on out-of-state replacement property | None |
| Conforms to Section 1031 | Yes; Kentucky starts from federal adjusted gross income |
| Local tax note | Some cities and counties levy occupational license taxes on business net profits, which can reach rental operations |
Table of contents
- How much is capital gains tax on real estate in Kentucky?
- Kentucky tax on a $300,000 gain: worked example
- Kentucky's falling rate and your exchange
- Local occupational license taxes
- Nonresident sellers in Kentucky
- Kentucky real estate transfer tax
- Conformity and clawback
- Moving into or out of Kentucky
- Where Kentucky 1031 exchanges happen
- Federal rules for a Kentucky exchange
- Kentucky 1031 exchange mistakes to avoid
- Start your Kentucky exchange
- Frequently asked questions
- Sources
How much is capital gains tax on real estate in Kentucky?
Kentucky has one rate for all individual income. For 2026 that rate is 3.5%, applied to the whole gain from selling a rental, farm or commercial building. There is no exclusion or reduced rate for long-term gains, and Kentucky taxes the depreciation recapture portion at the same 3.5%. Check the federal recapture amount with our depreciation recapture calculator.
At 3.5%, Kentucky is one of the lower-tax states that still has an income tax. The state tax is modest; the reason to exchange is the federal bill, which is roughly seven times larger in the example below.
Kentucky tax on a $300,000 gain: worked example
Assumptions: a long-term gain of $300,000 on an investment property, $100,000 of it unrecaptured §1250 depreciation, a married couple filing jointly, already in the top federal bracket. Kentucky's rate is flat, so no bracket assumption is needed.
| Tax line | Amount |
|---|---|
| Unrecaptured §1250 gain: 25% × $100,000 | $25,000 |
| Remaining long-term gain: 20% × $200,000 | $40,000 |
| Net investment income tax: 3.8% × $300,000 | $11,400 |
| Federal subtotal | $76,400 |
| Kentucky income tax: 3.5% × $300,000 | $10,500 |
| Total tax deferred by a full 1031 exchange | $86,900 |
A 2025 sale would have cost $12,000 in Kentucky tax at 4%. Compare selling and exchanging in the capital gains vs. 1031 exchange comparison.
Kentucky's falling rate and your exchange
Kentucky has been cutting its flat rate, most recently from 4% to 3.5%. For an exchanger that trend is a quiet bonus: gain you defer today is taxed only when you sell without exchanging, and if you still live in Kentucky then, the rate may be lower. If you are weighing a partial exchange with some cash out, the boot is taxed at the rate for the year of sale; model it with the partial 1031 boot calculator.
Local occupational license taxes
Kentucky has no county income tax in the Maryland sense, but many cities and counties, including Louisville Metro and Lexington-Fayette, levy occupational license taxes on wages and on the net profits of businesses. Whether a rental operation counts as a business, and whether a gain on sale falls in the net profits base, depends on the local ordinance and how the property is held. If you own rentals through an LLC in Louisville or Lexington, ask your CPA how the local return treats a sale versus an exchange.
Nonresident sellers in Kentucky
Kentucky's income tax chapter requires withholding on wages and on nonresident owners of pass-through entities, but it has no withholding on real estate sales by nonresident individuals. The settlement agent sends the full proceeds to your qualified intermediary with no state certificate.
The tax is still owed if you sell outright. A nonresident reports Kentucky-source gain on the nonresident return and usually claims a credit at home. If the property is held in a partnership or S corporation with nonresident owners, the entity-level withholding rules can apply to the gain. Foreign sellers face federal FIRPTA; read FIRPTA for foreign sellers.
Kentucky real estate transfer tax
Kentucky imposes a transfer tax of $0.50 for each $500 of value, or 0.10%, on each deed. The grantor named in the deed, meaning the seller, is liable, and it is paid to the county clerk when the deed is recorded. On an $800,000 sale that is $800. A 1031 exchange does not defer it. If you buy replacement property in Kentucky, the seller of that property pays the tax on your purchase, so your deed cost on the buy side is mostly recording fees.
Conformity and clawback
Kentucky computes income starting from federal adjusted gross income, so a gain deferred under Section 1031 is also deferred for Kentucky. There is no clawback or annual filing when you exchange into another state.
Moving into or out of Kentucky
Northern Kentucky owners often live and invest across the river in Ohio, and Louisville owners in southern Indiana; each state taxes its own real estate and credits the other. Kentucky investors who want to leave state income tax behind often exchange into Tennessee, then move there before selling. Moving into Kentucky from a clawback state such as California or Oregon does not end that state's claim on gain from an earlier exchange.
Where Kentucky 1031 exchanges happen
Louisville generates the most exchanges, from older multifamily in the Highlands to industrial space near the UPS Worldport; see our guide to a 1031 exchange in Louisville. Lexington offers student housing near the University of Kentucky and horse farm property, which can qualify as like-kind land. Northern Kentucky functions as part of the Cincinnati market, covered in our 1031 exchange in Cincinnati guide. Bowling Green and Elizabethtown round out the list with growing rental demand.
Federal rules for a Kentucky exchange
Your exchange starts when the Kentucky deed transfers. Identify replacements in writing within 45 days and close within 180 days. Proceeds must sit with a qualified intermediary. Reinvest at least the net sale price and replace retired debt to avoid taxable boot. Read our 1031 exchange guides and check your list with the 45-day identification validator.
Kentucky 1031 exchange mistakes to avoid
- Skipping an exchange because the state rate is low. The federal tax is the main cost.
- Using the old 4% rate in projections. The 2026 rate is 3.5%.
- Ignoring local license taxes on LLC-owned rentals. Louisville and Lexington returns can differ from the state return.
- Treating a horse farm residence as exchange property. The house you live in does not qualify; the land and barns used in the business may.
Start your Kentucky exchange
We serve as qualified intermediary for Kentucky sellers from Paducah to Pikeville. Start your exchange online, schedule an intro call, or call (631) 438-1031.
Frequently asked questions
How can I avoid capital gains tax on real estate in Kentucky?
Use a 1031 exchange to reinvest in like-kind investment property through a qualified intermediary. It defers the 3.5% Kentucky tax and the federal tax. Holding until death gives heirs a stepped-up basis.
What is the Kentucky capital gains tax rate in 2026?
Kentucky taxes capital gains as ordinary income at a flat 3.5% for tax years beginning on or after January 1, 2026, down from 4% in 2025.
Does Kentucky withhold tax when a nonresident sells real estate?
No. Kentucky has no withholding on real estate sales by nonresident individuals. The seller reports the gain on a Kentucky nonresident return unless it is deferred.
Who pays the Kentucky real estate transfer tax?
The grantor (seller) pays $0.50 per $500 of value, or 0.10%. A 1031 exchange does not defer it.
Can I exchange Kentucky property for property in another state?
Yes. Any US investment real estate qualifies, and Kentucky has no clawback on out-of-state replacement property.
Sources
- Kentucky General Assembly: 2025 HB 1 (rate reduction to 3.5%)
- Kentucky Department of Revenue: individual income tax
- KRS 142.050 (real estate transfer tax)
- KRS Chapter 141 (income taxes)
Related: 1031 exchange in Tennessee, Ohio, Indiana, West Virginia and all 50 states.
This page gives general information on Kentucky taxes, not tax or legal advice. Confirm your facts with a Kentucky CPA before you sell.
