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Eventual tax costs of converted residential property
Dear Tax Talk:
I bought a house in 1988 for $105,000. It now
is worth $160,000. I want to buy a new house and rent this one as
an investment. When I sell this house someday, will I have to pay
capital gains based on the difference between the selling price
and $160,000 or $105,000?
Russ
Dear Russ:
In all likelihood, your cost on the sale of the property
in the future would be what you paid for it, $105,000, rather than
what it is worth now. This isn't necessarily fair because if you
sold the house today, you'd be able to exclude from income the gain
on the property, since this is your principal residence. You could
then turn around and buy a new property with the proceeds and have
a cost basis equal to what you paid.
When Congress liberalized the rules on home sales
in 1997, it didn't make a provision for a situation such as yours.
This leaves you in the lurch, as you probably would like to rent
out a house that you have owned and maintained rather than buy a
new property that could be problematic.
However, from a tax standpoint it makes more sense
to sell the property to avoid paying capital gains taxes of 20 percent
or more (depending on your state) on $55,000 in appreciation. You
also increase your annual depreciation deductions when you buy the
new property.
-- Posted: May 17, 2002
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