<p>Ok, so we have sold our house and in the process of finding a new one. Is there a place other than the IRS website to get a quick lesson on capital gains?
I don’t want to read pages and pages but want to know what the general rules are. </p>
<p>Say we sell our house for $250k. We find another house we like for $225k. Does that mean we would report $25000 as a “gain” (income)? Or do they count a gain as what we bought it for 6 years ago compared to what we’re selling it for? </p>
<p>Other’s are more expert than I am, but I feel confident in telling you that you don’t need to worry about capital gains as long as the house was your principle residence. The first (something like $500K) of gains on your house are free of capital gains for a married couple.</p>
<p>You should always take this type of advice from a tax professional, but here is a nutshell summary.</p>
<p>IF (and only if) the house is your primary personal residence
AND you have lived in this house for at least two of the last five years
AND you sell it for under $250,000 (if owned singly) or under $500,000 (if owned jointly)</p>
<p>THEN you will not owe any capital gains tax on the sale. It does not matter if you buy another house or not, nor what you pay for the house you buy. </p>
<p>If you do not fit the above criteria, you really, really should consult a tax professional to make sure you take advantage of the correct laws regarding capital gains.</p>
<p>(PS These rules are very different from what they were a decade or so ago. There was a major “sea change” in capital gains rules re real estate at that time. Many people are still thinking the “old” way or some weird hybrid of the old and new. In those days, it <em>did</em> matter if you bought another house, etc.).</p>
<p>Loosely, you have a capital gain when you sell a home for more than the aggregate of its purchase price plus cost of sale plus improvements (but not repairs). The first $500K (for a married couple, $250K for a single person) is excluded from being taxed. So you’re good to go.</p>
<p>More broadly, capital gains is taxed at reduced rate compared to that of ordinary income. People will tap dance all they want about how this allegedly helps the economy (see also, trickle-down economics) but the moral is that people who live off investments, in addition to getting all sorts of juicy deductions, pay a lower tax rate via capital gains than if they live off investment income than the person busting their butt for a weekly paycheck.</p>
<p>Thanks for clearing that up! I had thought (like Jmmom said) that the laws had changed and you had to sell at a pretty high price to be affected. But a lot of misinformation is being given by well-meaning relatives which made me wonder…</p>
<p>“People will tap dance all they want about how this allegedly helps the economy (see also, trickle-down economics) but the moral is that people who live off investments, in addition to getting all sorts of juicy deductions, pay a lower tax rate via capital gains than if they live off investment income than the person busting their butt for a weekly paycheck.”</p>
<p>The tap dance typically involves small “steps” such as impact of inflation on the new value of the investment or the fact that investment capital was taxed once or more before. </p>
<p>By the way, if you happen to HAVE to sell a property for 1,000,000 with a tax basis of 50,000 (dating from your grand-parents’ purchase), do you think that the 950,000 is truly income, considering that it would be hard to replace the property with something comparable for the same 1,000,000? Should that sale be subject to income and social security taxes in the same way as the income of the butt-busters? </p>
<p>Lastly, TD, would you personally endorse a repeal of the tax breaks currently supporting the real estate industry, both residential and commercial?</p>
<p>I just want to fine tune jmmom’s advice a little bit. Capital gains are taxed on the PROFIT, not the raw sales price. So here’s a little example. A married couple buys a house for $100,000. More than two years later, they sell the house for $550,000. The profit is $450,000. No capital gains tax due.<br>
Now imagine this example. A couple buys a house for $100,000. This is the cost basis. Time goes buy. They do $200,000 worth of renovations. If they improve the property and are not repairs, they add to the cost basis. Now they sell it for $700,000. The profit is $400,000. No capital gains tax due. There are lots of other little fine details because you subtract out the realtor’s fees and all kinds of things that you have to pay to sell your house.
Under the old rules, you had to buy a principal residence of equal or greater value to defer your capital gains. And keep lots of receipts and paperss to do everything you could to keep from paying captial gains tax. Not any more. Much simpler rules.</p>
<p>Your gain is the difference between your selling price and your basis - what you have invested in the home. Don’t forget any money spent on improvements as part of that basis. The only part of the gain the IRS is interested in is what you don’t reinvest in a similar type purchase (so if you sold for 250,000 but turn around and bought for 225,000, your potential realized gain is the 25,000). That’s assuming the home being sold has appreciated in value and you are selling it for more than your original purchase price plus improvements (which is probably the case after 6 years).</p>
<p>So then you look at your “exclusion”, which is 500,000 for a couple filing a joint return (250,000 if single or if filing separately). The best source of information would be an IRS publication. You can find a ton of detail at the IRS website, too. (I think publication 523 addresses sale of home stuff.)</p>
<p>Going forward, if the gain on this transaction is 25,000, there is still unused gain exclusion of 475,000 for future transactions.</p>
<p>itstoomuch, I don’t think your case is a general one; rather, it would relate to such things as a tax-deferred exchange.</p>
<p>xiggi-
Such situations can be triggered or avoided depending on how you received the property. If you inherit it, your basis will be the value at the time you inherit, so there may be little or no gain if you sell it quickly. OTOH, if they gave it to you while still living, you will have their way-old, way-low basis and a huge capital gain. There are valid reasons for them doing this, but - sadly - some parents and grandparents think they are doing their heirs a favor by putting a home in their names while still living; it is not always a favor (tax wise).</p>
Don’t agree wrt principal residences. These are two of the aspects which were altered in the “sea change” in 1997. You can use the exclusions which TheDad, LWMD and I have outlined over and over and over again (so long as two years pass between each use). You don’t “use up” the exclusion.</p>
<p>The different info you are getting here, DrDrewsmom, is a perfect illustration of why it is penny wise and pound foolish not to consult a knowledge tax professional, active in the business who frequently handles real estate matters. It should not cost much to consult one; you do not have to have them do your tax preparation.</p>
Xiggi - you’ve left out lots of variables in the tax laws. But in general - yes. Why shouldn’t it be? Consider this: growth in the value of capital assets increases your net worth, meaning you have more assets to buy other stuff with. For non-asset owning individuals the only way they grow their net worth is by earning more money each year and saving some of it. That increase in net worth is taxed. If that guy wants to buy a $1,000,000 house he’s got to use after-tax dollars to do it with. Why shouldn’t you? Why shouldn’t the wealth arising from passive increase from asset appreciation be taxed the same as any other means of increasing personal wealth? Is wealth earned by labor somehow more fair to tax? I don’t follow that.
Granted, a truly rational tax scheme would be for all owners of assets to report the net gain or loss of value of their assets each year and then pay tax on that (or deduct it, in the case of a loss.) But that would be cumbersome and difficult to police. So you get to defer paying on that increase in wealth until you sell the asset, then all of that wealth gain is taxed at once.</p>
<p>The public has decided that investing in housing is good and valuable to the public and should be encouraged. Perhaps it creates more housing and more home ownership which means more stability in neighborhoods which has a value to society. Something like 70% of households own homes so this benefit if broadly dispersed.
You are welcome to try to change the majority’s opinion. It was a Democrat that signed that law.</p>
<p>Kluge, are you really richer when your 3 bedroom home in Sausalito doubles in price every five years? It is still the same house. </p>
<p>What if the $1,000,000 dollars in my example was actually the result of 10 years of 20% inflation? What if a property was bought for 500,000 in 2000 when the dollar was worth 1.20 Euros (600,000 Euros) and that the 1,000,000 now translates into 800,000 Euros. Did you the owner make a $500,000 profit? </p>
<p>Do people in Argentina who saw their currency devalue by 300% see capital gains differently? </p>
<p>Do people in France enjoy the caprices of their new wealth taxes?</p>
I’d be richer than the guy who’s been renting all that time, wouldn’t I? I’d have all that equity, which I could tap to, say, pay my kids’ tuition, and he’s got - nothing. Your point about inflation is valid, and indexing is appropriate in my opinion. That was the basis for lowered tax rates on capital gains, and different rates on short-term and long-term gains. I am simplfying the issue deliberately, because it is complex. Bottom line - you can make any tax seem “unfair”. Any tax. Which means that to assess whether the tax really is more unfair than any other tax you need to view it, not in a vacuum, but in comparison to other people who will have to pay more taxes (based on whatever taxation standards you have for them) to make up for whatever taxes you don’t collect. And in this case we’d be comparing me to the guy who makes the same amount of money as I do, but because he has been relocated frequently (or whatever) he’s been renting all this time, instead of owning a home. We’re not on an even keel, even though we may have been paying the same amount of money, for similar housing, all along. I don’t think it’s outrageous to suggest that I pay a portion of the wealth I realize from that gain in taxes - particularly when the first $500,000 is exempt. Even after paying the taxes I come out way ahead.</p>
<p>We all make choices. Some rent and drive a sweet car, some even drive a race car that sucks mucho $$$ (me in younger days). The government is telling you to buy and save in that way–the smart heed the advice.</p>
<p>BTW, if anyone’s interested, we found a house and made an offer yesterday. Higher price than the one we’re selling, so now I REALLY don’t need to know all the specifics.</p>
<p>but thanks for the tips and the discussion :)</p>
<p>And barrons, we have nice(r) house and drive cr@ppier cars. If we lived in our cars we might feel differently (and I know some people practically do!).</p>
<p>I have a theory tied to basic economics about maximizing your utils. When we are young having fun and doing things brings far more utils than deferring the “fun” to the future. This is because we are all only young once and the things you can do and enjoy when you are young simply disappear as alternatives when you are older. As we get older we are more content to live a simpler life–especially if we did it all when we were young. I always felt a little sorry for the young folks that lived like they were already 50.</p>