Taxing a Home Seller’s Math Skills
Q: In previous columns, you have discussed how to calculate your taxable gain on a home sale when the seller is using the $125,000 exemption. I think you are wrong. Can you please explain it again? --F.A.
A: This calculation is among the most misunderstood by taxpayers. Unfortunately, many are shocked to discover that the formula is not what they had assumed and that the correct calculation produces a higher taxable gain than they had assumed.
For the sake of example, let’s start with a home that will generate net sales proceeds of $300,000 and whose 60-year-old owners have an original tax basis of $40,000. This couple will use its $125,000 profit exclusion and move into a replacement residence costing $150,000.
The first step is to subtract the $125,000 exclusion from the net sales proceeds. This leaves $175,000. It is at this point that many taxpayers become confused. The Internal Revenue Service allows you to deduct the larger of either your taxable basis or the purchase price of the new home. You may not, as many taxpayers erroneously assume, deduct both amounts. In the above case, you would now deduct the $150,000 price of the replacement home, leaving a taxable gain of $25,000.
When do Spousal Benefits Kick in?
Q: My wife is six years older than I am and has not worked for a long time. When she turns age 62, may she draw spousal benefits on my Social Security account or will she only be able to draw on her account? --R.S.
A: She may only draw on her account at this time. Later, when you retire, she will be eligible to switch to spousal benefits on your account.
Spousal benefits are available only when the taxpayer on whose account the benefits are drawn actually begins receiving benefits. So, until you begin drawing benefits, which would be at least six years after your wife turns age 62, your wife is ineligible for spousal payments. If you wait until turning age 65 to begin receiving benefits, your wife will be eligible for 50% of your payments, minus a small percentage to compensate for her beginning to draw payments on her own account at age 62.
What About Deducting Mutual Fund Fees?
Q: We have several mutual funds and pay about 1% every year in “loading fees.” Are these charges deductible on our taxes? --A.C .
A: You may not deduct the fees from your taxes every year. But you may still get a tax break when you sell your holdings. The fees should be added to your cost basis in the mutual fund and when you sell the shares, your taxable profit will be reduced by the amount of these charges. By the way, why aren’t you investing in one or more of the well-performing, no-load mutual funds?
One More Reason to Stay Married
Q: My wife and I were recently divorced. We have agreed to sell the home in which she and the children have continued to live. I have my own apartment. Now I am being told that I will have to pay taxes on my share of any gain we realize from the sale and will not be able to roll it over into the purchase of a new home. This doesn’t seem fair. Can it possibly be true? --J.E .
A: The question facing you and, judging from recent mail, many other men is quite simple: Is the family home your principal residence or not? The home must qualify as your principal residence in order for you to roll over, on a tax deferred basis, any profits you realize from its sale into a new home. If you can’t meet the test, you will be liable for taxes on the gain regardless of whether you purchase a new residence.
That said, you should know that even if you are living in an apartment, the family’s home may still qualify as your principal residence. How? If your house was put up for sale when you moved out, the Internal Revenue Service allows you to keep its designation as your principal residence for tax purposes. Perhaps you did this? In today’s wretched real estate market, it can take a long time to sell a home. Now the question is whether you can demonstrate that the home was on the market--or about to be--when you moved out. Perhaps you can do this.
In some cases, a taxpayer will allow an ex-spouse to live in the family home with the children to minimize the disruption to their youngsters’ lives. While such goals are laudable, the spouse who moves out will face disastrous tax consequences upon the sale of the home unless adequate provisions are made at the time of the divorce and property settlement. A competent tax attorney or certified public accountant can lay out your choices and guide you in selecting the correct one for your situation.
If you failed to take the proper steps at the time of divorce, there is still one way for you to claim your old family home as your principal residence: move in for at least six months and preferably a full year.
Two Generations of Taxable Basis
Q: My father inherited property upon the death of my grandfather in 1976. Six years later, when he was quite ill, he signed the property over to me. I have an opportunity to sell the property now and am wondering what its tax basis is. --J.E .
A: The property’s basis is its value on the date of your grandfather’s death. Why? When you received the land as a gift, you assumed your father’s basis in the property which was set as of your father’s inheritance of it from your grandfather. If your father had waited and left you the property in his will, it would have been valued as of his date of death.
