irs

Sell Your Home But Keep the Profits

With the real estate market looking up in many areas, money is out there to be made. Sellers, it’s time to take a close look at the exclusion rules and cost basis of your home to reduce your taxable gain.

The IRS home sale exclusion rule now allows an exclusion of a gain up to $250,000 for a single taxpayer or $500,000 for a married couple filing jointly. This exclusion can be used over and over during your lifetime, unlike the previous one-time exemption, as long as you meet the following Ownership and Use tests.

During the 5-year period ending on the date of the sale, you must have:

Owned the house for at least two years – Ownership Test
Lived in the house as your main home for at least two years – Use Test

Tip: The Ownership and Use periods need not be concurrent. Two years may consist of a full 24 months or 730 days within a 5-year period. Short absences, such as for a summer vacation, count in the period of use. Longer breaks, such as a 1-year sabbatical, do not.

If you own more than one home, you can exclude the gain only on your main home. The IRS uses several factors to determine which home is a principal residence: place of employment, location of family members’ main home, mailing address on bills, correspondence, tax returns, driver’s license, car registration, voter registration, location of banks you use, and location of recreational clubs and religious organizations you belong to.

Tip: As we said, the exclusion can be used repeatedly, every time you reestablish your primary residence. When you do change homes, let us know your new address so we can ensure the IRS has your current address on file.

Note: Only taxable gain on the sale of your home needs to be reported on your taxes. Further, loss on the sale of your main home cannot be deducted. Ask us for details.

Improvements Increase the Cost Basis

Additionally, when selling your home, consider all improvements made to the home over the years. Improvements will increase the cost basis of the home and thereby reduce the capital gain.

Additions and other improvements that have a useful life of more than one year can be added to the cost basis of your home.

Examples of Improvements
Examples of improvements include: building an addition; finishing a basement; putting in a new fence or swimming pool; paving the driveway; landscaping; or installing new wiring, new plumbing, central air, flooring, insulation, or security system.

Example: The Kellys purchased their primary residence in 1999 for $200,000. They paved the unpaved driveway and added a swimming pool, among other things, for $75,000. The adjusted cost basis of the house is $275,000. The house is then sold in 2011 for $550,000. It costs the Kellys $40,000 in commissions, advertising, and legal fees to sell the house.

These selling expenses are subtracted from the sales price to determine the amount realized. The amount realized in this example is $510,000. That amount is then reduced by the adjusted basis (cost plus improvements) to determine the gain. The gain in this case is $235,000. After considering the exclusion, there is no taxable gain on the sale of this primary residence and, therefore, no reporting of the sale on the Kelly’s 2011 personal tax return.

Tip: Home Energy Credit. Home energy-efficiency tax credits were extended into 2011 at reduced limits and with modifications. A tax credit of 10% of cost up to $500 is available for projects including energy-efficient heating and air-conditioning systems, roofing, and insulation. Further limitations do exist for certain items. For example, for the replacement of windows and skylights, the credit is 10% of cost, capped at $200. But you can still take advantage of tax credits at 30% of cost for alternative energy projects, including geothermal and solar projects and wind turbines. Please contact us for further information on these credits.

Partial Use of the Exclusion Rules

If you do not meet the Ownership and Use tests, you may be allowed to exclude a portion of the gain realized on the sale of your home if you sold your home because of health reasons, a change in place of employment, or certain unforeseen circumstances. Unforeseen circumstances include, for example, divorce or legal separation, natural or man-made disasters resulting in a casualty to your home, or an involuntary conversion of your home.

Example: If you get divorced after living in your home for approximately 1 1/2 years or 438 days and have a gain of $120,000 on the sale of your home, you can take 60% of the capital gain exclusion, as you lived in the house for 60% of the 2-year exclusion period (438 days divided by 730 days, or 60%). Therefore, you would be allowed to deduct $150,000 of the capital gain (60% of the $250,000 exclusion). You would NOT need to report any gain on this sale.

Recordkeeping

Good recordkeeping is essential for determining the adjusted cost basis of your home. Ordinarily, you must keep records for 3 years after the filing due date. However, keep records proving your home’s cost basis for as long as you own your house.

The records you should keep include:

Proof of the home’s purchase price and purchase expenses
Receipts and other records for all improvements, additions, and other items that affect the home’s adjusted cost basis
Any worksheets or forms you filed to postpone the gain from the sale of a previous home before May 7, 1997

Questions?

Tax considerations can be confusing. If you have any questions on taxes related to the sale of your home, give us a call.

Gift Taxes

In 2011, if you give any one person gifts such as cash or property valued at more than $13,000, you must report the total gifts to the Internal Revenue Service. You may have to pay tax on the gifts, but the person who receives your gift does not have to report the gift to the IRS or pay gift or income tax on its value.

Gifts include both cash and property, including the use of property, without expecting to receive something of equal value in return. For example, if you sell something at less than its value or make an interest-free or reduced-interest loan, you may be making a gift.

There is a lifetime maximum of $5 million and there are some exceptions to the tax rules on gifts. The following gifts do not count against the annual limit of $13,000 in 2011:

Tuition or medical expenses that you pay directly to an educational or medical institution for someone’s benefit
Gifts to your spouse
Gifts to a political organization
Gifts to qualifying charities (also deductible on your tax forms for the value of the gifts made)

If you are married, both you and your spouse can give separate gifts of up to the annual limit of $13,000 each or a total of $26,000 in 2011 to the same person without making it a taxable gift.

If you’re confused about gift taxes or need more information,we can help clear up the confusion. Contact our office today.

5 Tips for Taxpayers Who Owe Money to the IRS

The vast majority of Americans get a tax refund from the IRS each spring. But what if you’re not one of them? What if you owe money to the IRS?

Here are five tips for individuals who still need to pay their taxes.

If you get a bill for late taxes, you are expected to promptly pay the tax owed including any additional penalties and interest. You can pay the balance owed by electronic funds transfer, check, money order, cashier’s check, or cash. If you are unable to pay the amount due, it is often in your best interest to get a loan to pay the bill in full rather than to make installment payments to the IRS.
You can also pay the bill with your credit card. In either case, the interest rate on a credit card or bank loan may be lower than the combination of interest and penalties imposed by the Internal Revenue Code.
If you cannot pay the liability in full you may request an installment agreement. This is an agreement between you and the IRS for the collection of the amount due and is payable in monthly installment payments. To be eligible for an installment agreement, you must first file all required returns and be current with estimated tax payments.
You can also use an installment agreement if you owe $25,000 or less in combined tax, penalties, and interest. The IRS will inform you usually within 30 days whether your request is approved or denied or if additional information is needed. If the amount you owe is $25,000 or less, provide the monthly amount you wish to pay with your request. At a minimum, the monthly amount you will be allowed to pay without completing a Collection Information Statement is an amount that will fully pay the total balance owed within 60 months.
You may still qualify for an installment agreement if you owe more than $25,000, but a Collection Information Statement must be completed before an installment agreement can be considered. If your balance is over $25,000, consider your financial situation and propose the highest amount possible, as that is how the IRS will arrive at your payment amount (based on your financial information).
If an installment agreement is approved, a one-time user fee will be charged. The user fee for a new agreement is $105 or $52 for agreements where payments are deducted directly from your bank account. For eligible individuals with incomes at or below certain levels, a reduced fee of $43 will be charged. This is automatically figured and is based on your income.

If you owe the IRS money, give our office a call. We can help you set up installment agreements and other payment options.