5 homeownership tax myths
Generally, when someone inherits a property, its value is stepped up. That means when the owner dies, the property becomes worth its fair market value that day.
But if the child co-owns the property with his parent, the child doesn't get to fully use stepped-up basis. Tax law considers the addition of the child's name to the title as a gift. And, along with that half of the home, the child receives half the basis that his or her parent has in the property.
This is known as the property's carry-over basis. And it could be costly.
Consider, for example, that you bought your house many years ago and your basis in the property is $50,000. You add your daughter to the title. When you die, she inherits your half of the home, which by then is worth $250,000. A buyer offers $300,000 for the home.
Pretty good deal, right? From a real estate perspective, yes. But not when it comes to your daughter's tax bill on the sale.
What had been done with the best parental intention turned out to carry a big price because of this homeownership tax myth.
|Tax bill on the sale|
|Rather than owing
taxes on just $50,000 more than the house's stepped-up market value, your daughter
will owe on three times that amount. Here's the math:|
|1. Parent owns home with a basis of:
|2. Parent adds child to title, "giving"
child carry-over basis of: ||$25,000
|3. At parent's death, house
is worth $250,000, producing on the inherited half a stepped-up basis of: ||$125,000|
|4. Home subsequently sells for: ||$300,000|
|5. Child's total adjusted basis is:
(line 2 plus line 3)
|6. Taxes due on sale profit of: |
(line 4 sale price less line 5 basis)
|7. Taxes to be remitted to the IRS:
(Sales profit of $150,000 x 15 percent long-term capital gains)
5. If I take a capital loss when I sell my home, I can write it off.
This myth, like No. 2, was probably started by wishful homeowners. Sorry, it's just as wrong.
It is true that real estate, like any other asset, has the potential to go down as well as up in value. But unlike most of those other holdings, you cannot write off any loss you suffer if you must sell your main residence for less than what you paid.
That's because your residence, under tax law, is considered personal property.
"When you sell your home for a loss, it's not like other capital items," says Scharin. "You don't get to deduct personal property that you sell for a loss."
"It's the same as any personal property that declines in value," says Luscombe, "like that old TV you sold to the neighbor kid so he could take it to college. You sold it for much less than you paid, but you can't take a loss."
You do, however, have to pay tax on gains you make when selling personal property.
But at least you now know the difference between fact and fiction when it comes to your residential property, which will help you make appropriate real estate and tax decisions in the future.
Freelance writer Kay Bell writes Bankrate's tax stories from her Austin, Texas, home. She also writes two tax blogs, Bankrate's Eye on the IRS, and Don't Mess With Taxes.
|-- Updated: Jan. 24, 2008