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Exclusion of large amounts of profits creates tax risks
One of the most popular provisions in the tax code is the exclusion of $250,000 ($500,000 for married couples) of capital gains from the gain on the sale of a home. Most home sales transactions are not taxable as long as you follow the rules.
But what happens when tax laws change?
What if I want to rent out my home?
What if you have a home office?
What if I can't prove the value of my home?
Your best defense against potentially high taxes in the future is good record-keeping.
problem
Gain exclusions are so high that many of us no longer know the true cost of our home. This mistake can be costly. Please note that this exclusion of benefits requires documentation to support the tax benefit.
calculation
To calculate the gain on the sale of a home, subtract the basis amount from the sale price of the home. Basis is an IRS tax term that equals the original price of your home, including closing costs, and is adjusted by the cost of any improvements you make to the home. The value of your home may also decrease due to previous damage or disaster losses. As long as the home you sell has been owned as your primary residence for at least two of the past five years, you can usually take advantage of the capital gains deduction on your tax return.
to avoid surprise taxes
Always keep documentation to calculate the actual value of your home. These documents must include:
- Completion documents from original home purchase
- all legal documents
- Canceled checks and invoices from home renovations
- Closing documents that support the value of your home when you sell it
You may need to pay special attention to tracking home values.
have a home office
If a home office is involved, this may affect the calculation of capital gains exclusions. This is especially true if you depreciate part of your home for business use.
you live in your house for a long time
Most homes will increase in value. The longer you live in your home, the more likely it is that the value of your home will increase over time. For example, if an elderly single parent sells a home they have lived in for more than 40 years, they can potentially make a significant profit.
you live in a metropolitan area
Certain areas of the country are known to experience rapid increases in real estate values.
you are renting a house
If a portion of your home is depreciated, it can affect the calculation of the available gain exclusion. The rental cost of a home can also affect the calculation of residency requirements for the home gains tax credit.
I recently sold another house.
The home sale gain deduction can only be used once every two years. If you recently sold your home for a profit, it's important to keep all documents related to your new home.
The best way to protect the benefits of this tax law is to keep all housing documents that support the calculation of property value. Please call us if you would like to discuss your situation.
James Angell is a certified public accountant based in Willits. His office is located at 461 S. Main St. and he can be reached at 707-459-4205.
