The Tax Effects Of
Buying Or Selling A Home
The following information is provided to identify some of the tax implications of buying or selling a home. Please remember that this is generalized information and not presented as a substitute for professional tax advice by a qualified CPA. Also, since tax laws change continually, seek the advice of your tax professional for complete tax advice. But call Allan for professional real estate advice.
Equity Loans | Points | Interest | Second Homes | Local Taxes | Moving | Gains | Rentals | Depreciation | 1031 Tax Deferred Exchanges
Tax Facts: Tax rates favor homeowners. Numerous deductions, especially mortgage interest and property taxes, help lower homeowners' taxable income. Here is the tax rate schedule for income. (Income ranges will be adjusted for inflation for the 1997 tax year.)
0 to $ 26,250
$ 26,250 to $ 63,550
$ 63,550 to $132,600
$132,600 to $288,350
0 to $ 43,850
$ 43,850 to $105,950
$105,950 to $161,450
$161,450 to $288,350
Rates are different for married couples who file separately and for heads of households. The effective tax rate may be higher than shown because of limits on itemized deductions and personal exemptions for higher incomes. Also, state income taxes often increase your taxes by 5% or more.
Helpful Hints: Many homeowners overpay taxes simply by overlooking deductible items. Get one of many tax preparation books available in bookstores that lists deductible items to jog your memory.
Tax Facts: Interest is fully deductible on home equity loans up to $100,000 - in contrast to other types of loans - regardless of how the proceeds are used. A home equity loan, including a second mortgage or equity credit line, is a loan secured by a primary or second home. The loan, when added to other debt secured by the residence, can't exceed the fair market value of the property.
Helpful Hints: Interest paid on credit cards or other types of personal loans is not deductible. For many owners, it makes tax sense to pay off this kind of debt with a home equity credit line or loan.
Tax Facts: For home buyers, deductible expenses include settlement charges for points. Deductible points are up-front charges from the lender. One point equals 1% of the loan amount. Points paid by either the buyer or seller are deductible by the buyer in the year of purchase.
Helpful Hints: The IRS announced in April 1994 that seller-paid points can be deducted as a Schedule A mortgage expense by buyers who purchased a principal residence since December 31, 1990.
Tax Facts: Interest payments on a residential mortgage - assuming the mortgage isn't larger than the purchase price of the house - are fully deductible in most circumstances. That's a key reason why home ownership is a superb tax shelter. Mortgage interest on a second home is also deductible, as explained in the Second Homes section below. If you own a third home for personal purposes, the mortgage interest is treated as "consumer loan" interest and is not deductible. Interest on home equity loans (see Equity Loans section) is deductible, with some limitations.
Helpful Hints: If you are planning to buy a home with a large amount of cash, consider carefully if you plan to ultimately finance the property. For interest to be deductible on a financing more than 90 days after closing, it will be limited to the acquisition loan balance plus $100,000 under home equity loan rules.
Tax Facts: Second homes and vacation homes have separate tax rules depending on the owner's personal use days. A residence is a second home if it is used personally more than 14 days or 10% of the days it is rented (if rented more than 140 days). It's a vacation home if personal use is no more than 14 days or 10% of the days it is rented.
For a second home, all mortgage interest and property taxes are deductible as additional itemized deductions. If there's rent income, other property expenses may be deductible, but only up to the amount of the rent income (losses are not allowed).
Owners of vacation homes may claim rent expense deductions other than interest and taxes, including depreciation of the property, even if it results in a loss. When personal use of a vacation home is involved, deductions are determined by allocating expenses, including interest and taxes, between the rental and personal use periods.
Helpful Hints: if the property is vacant part of the year, the courts support a method of calculating the portion of interest and taxes (deductible as an itemized deduction anyway) charged to the rent activity that is very favorable to the taxpayer: multiply total interest and taxes by the percentage of total rent days divided by 365. See your tax advisor about this. Once you exceed the maximum personal use days described above, you'll get the largest tax deductions by increasing your personal use days in relation to rental days.
Tax Facts: Real property taxes and state and local income and personal property taxes are fully deductible.
Helpful Hints: If you sold or bought property during the year, you may have paid real estate taxes without being aware of it. See closing statement for any prorations.
Tax Facts: If you moved to a new home because of a new job or a job transfer, you may qualify for a moving expense deduction. The distance between the old home and the new job must be at least 50 miles more than the distance between the old home and the old job. The location of the new home is not considered. Whether a homeowner or renter, you may deduct the cost of moving household goods and the direct cost of moving you and your family. You may deduct expenses for lodging during the move but not the cost of meals.
Helpful Hints: While Realtors' commissions, lawyers' fees, and other closing costs are no longer deductible, these costs can reduce capital gains by adding to the cost basis or reducing the adjusted sale price. See IRS Publication 530, "Tax Information for Homeowners."
Tax Facts: The profit on selling a home owned is a capital gain, subject to federal and state capital gains tax. The profit, or capital gain, is reduced by the original cost of the property, selling expenses and outlays for improvements over the years of ownership.
The tax law enacted in 1997 provides tax relief on the sale of your home. You may avoid paying taxes altogether on the first $250,000 (for single taxpayers) or $500,000 (for married taxpayers) of gain realized at sale.
This rule replaces both the "rollover exclusion" that allowed you to avoid tax so long as you purchased a new residence at equal or greater price than the old one, and the "over-55 exclusion" that provided a one-time $125,000 exclusion on gain if you were 55 of older at the time of sale.
To qualify under the new rule, you must have owned the home and occupied it for any 2-year period out of the last 5 years prior to selling. You can only use this provision once every 2 years, but if you move after a shorter stay than 2 years due to a job change or health problem, you can prorate the credit for the time you actually owned/lived in your home.
Gains above $250,000 / $500,000 are taxed at a 20% capital gains rate, down from the former 28% rate.
Helpful Hint: Contact your tax preparer for more information about this new law. You should continue to maintain records of improvement expenses in the event your gain exceeds the $250,000 / $500,000 profit cutoff.
Tax Facts: If you have adjusted gross income of $100,000 or less (not counting any loss from "passive activities," deductions for IRA contributions or taxable Social Security benefits), you may deduct up to $25,000 in losses from rental real estate against income from other sources - as long as you own at least 10% of the property and "actively participate" in its management. (If you choose the tenants and approve outlays for maintenance, for example, that's considered "active" participation.) If your adjusted gross income is between $100,000 and $150,000 you may still deduct some or all of your losses from rental real estate, depending on the amount of the loss.
Helpful Hints: Don't forget that if any rent losses were "suspended" in prior years, they are fully deductible in the year the property is sold.
Tax Facts: Depreciation is an expense deduction that allows the taxpayer to deduct capital investments in income-producing activities. A homeowner might decide to turn a second home into rental property, for example, and would then be able to claim a depreciation deduction. Residential structures put in service after December 31, 1986 are depreciated over 27 years using the straight-line method (equal amounts of depreciation deducted each year). Property already in service before that date continues the method already in use.
Helpful Hints: Depreciation provisions are changed frequently. What's more, it's often confusing as to what constitutes a repair versus a capital improvement. Before making large outlays to buy or improve a rental property, consult your tax advisor to find out what portion of your costs are capitalized and depreciated, and what portion are treated as expenses for tax purposes.
Tax Facts: Section 1031 of the Internal Revenue Service Code allows investors to defer (postpone) paying income taxes on gains from the sale of investment real property if the proceeds are reinvested into "like-kind" property. In order to qualify, the old property must have been held for investment or for productive use in a trade or business. Details follow:1. Like-kind property means real estate investment property: vacant land, rental property, office building, etc. Residences do not qualify.2. You must exchange up in value or equity in order to fully defer taxes. If you exchange down in value or equity, you will have received non-qualifying property ("boot") and tax is computed on the amount of boot received.3. In the past, it was a requirement that you exchange the old and new property simultaneously. Today, delayed exchanges are common provided you meet specific requirements: you must use a "facilitator" to coordinate the sale and buy, you must identify 3 potential new properties to buy within 45 days after selling the old property and you must close on the purchase of one of those 3 properties within 180 days after selling the old property.
Helpful Hints: Remember that this is not available on your residence. Because of the stringent requirements, professional tax counsel is essential. Allan can direct you to capable local advisors in the South-Metro Denver area.
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Copyright © 2000-2006 Allan VanInwegen, Broker
Associate, Home Real Estate
Questions or comments should be directed to: allan@ColoradoHomeSeller.com
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