10 years ago my elderly mother moved out of the house she purchased in 1967 because she got sick and had to go into assisted living. She’s been there all this time, never moved back although she and the family wanted her to. Now we have to sell the house. It will have a huge capital gains (27k purchase price–750k market value today.
can she still get a 250k exclusion if her intent all along was to return.
is her profit taxed as ordinary income or capital gains.
She never rented it, nobody ever lived in it, it just sat empty.
No. Time spent in a licensed care facility, such as a nursing home, only counts towards the two year residence requirement if she spent at least one year of the last five years living in the house.
Publication 523 is very poorly phrased. It is more clearly spelled out in both the code and the regulations. Treas Reg §1.121-1(c)(2)(ii):
Your mother did not live in the home for at least 1 of the last 5 years and therefore she cannot count time spent in the nursing facility as time spent in the home.
You should see a tax attorney who can advise you on whether it would behoove you to consider other strategies, such as gifting it to the children. Of course, if you are selling it to pay for her nursing home, then that won’t work.
It is critical that you should see a tax accountant to work out your mother’s estate planning.
If your mother sells the property before her death, she has a huge capital gains tax bill. But if she wills the property to her beneficiaries, the liability for capital gains tax vanishes upon her death through step-up in basis.
This is one of the more bizarre and counterintuitive provisions of the US tax code, but there it is. You can probably save several hundred thousand dollars in tax by having her keep the house (assuming that it will pass to you upon her death) and raising money in the interim some other way to cover her financial needs. The obvious route would be to borrow against the house, and/or to rent it out. Even if the house remained empty for another 10 years, you’d save so much money in tax that it would probably still make sense.
No, no problem and thanks much for the prior info. Yes, she’s still with us and in excellent health. She could make 105 with no trouble.
So the big question is, since the gain will have to be declared as income, here’s how things stand:
her ordinary yearly income is 1100/mo from Social Security and 1500/mo from a rental she has. So 2600/mo. I think that puts her in the 15% tax bracket though she has enough deductions to write her taxes down to zero.
When the house sells she will gain roughly $700,000 one-time for that year after subtracting broker costs.
Using a capital gains calculator i calculated her federal will be 124K using 15% CG and her state 60K using California’s top CG tax of 13.3%. Does that sound about right? I have factored in her original purchase price.
You haven’t explained why you have to sell the house. If you need money (presumably to pay the nursing home), you should be able to get a home equity loan probably for the same amount as the net proceeds after taxes, if not more given how high California state capital gains tax apparently is. If you need a resident to get a home equity loan, well, she already has rental income from somewhere else that you mentioned, is a second rental that big of a deal?
The amount of money in taxes that it will cost you is so high that you can afford to make any number of other arrangements to keep the house in her name until she dies and the heirs get the step-up in basis.
Yes, the sole logical thing is to let title pass upon her passing. It’s her idea to sell. Of course as agent I have the final say but it’s a juggling between serving her wishes and doing what’s best for her estate and heirs. There’s no Medicaid involved. She has enough funds to pay her way. It’s a dilemma.
From a financial point of view, there is no “dilemma”. From what you’ve said, there’s no sensible reason to sell the house. To save >$200k, I assume that you and your family would be willing to look after the property (I assume you have been anyway for the last 10 years?), deal with taking a loan out against the house if she needs money, perhaps renting it out?
If the reason for her wanting to sell the house is because old people are stubborn and won’t listen, well… that’s between you and your family. But since you didn’t appear to have heard of step-up basis before this thread, I assume she hasn’t either? A sensible approach might be to get a tax accountant who handles estate planning to speak to her directly, so that you can avoid any feeling in your own mind that there is a conflict of interest in advising her to act sensibly. Come to that, it doesn’t matter if she wills it all to you - if she wants to give half her estate to the local cat’s home, her estate is still worth the extra >$200k if she defers sale until after her death. So it’s not like you’re just acting selfishly here.
Well, here’s the thing. I am the agent appointed to look out for her affairs and also one of her children. I have been fixing the house up over the last ten years little by little because it was a gigantic mess when she had to leave. It never got rented because she always wanted to return and we thought she might be able to.
But as the years went by it became clear that she’d never be able to live there by herself safely and nobody can move in with her nor can she move in with anybody and be looked after safely. I am familiar with the step-up in basis which is the main reason why they passed title and retained a life estate so the step-up would be preserved. I think over the 20 years or so since she passed it to her children she’s forgotten about all that–her cognitive abilities are greatly impaired by age. But calculating that the combined taxes would be 37.1% I cannot honestly allow the property to be sold I have concluded. I think it would be grounds for the family to remove me as agent and I really wouldn’t blame them.
I assume she is single, over 65 and no dependents. Assuming the the $1500/mo on the rental is the net after all deductions. The total federal income tax she would pay (using 2016 rates) would be $610, using the standard deduction. (Even if her net real estate is less than that, it’s just noise when you add in the capital gains.)
If we add in $700,000 in long term capital gains, her tax jumps to $155,870.
That’s 105,300 in ordinary income tax and capital gains,
$30,640 in AMT (Alternative Minimum Tax),
and $20,110 in Net Investment Tax.
Don’t forget that with that high an AGI, 85% of her SS becomes taxable and her personal exemption phases out.
I don’t wanna calculate the California tax. I hate CA tax. I never get it right.
This is an important factoid that you neglected to mention earlier. This changes everything.
If I understand correctly, your mother has already transferred the deed to the children, but retained a life estate in the property?
The children are called “remainder owners” (remaindermen or remainderpersons). And they own what is called a “remainder interest” in the property. At the time the title of the property was transferred, a certain percentage of the property’s value was assigned as the value of the life interest and a certain percentage as the remainder interest. If the property is sold before your mother dies, your mother and the remainder owners will have capital gains proportionate to their respective interests in the property. (And, by the way, you can’t sell the property without the consent of the remainder owners.)
So the mother won’t be paying the capital gains taxes alone. They will be paid by the mother and the children and they will be calculated according to their respective ownership positions.
This isn’t as simple as just calculating how much your mother owes on $700,000 in capital gains. Both she and the children will have capital gains and they each have to calculate how much they will be individually paying.
This is getting very complex. I know you omitted this crucial fact because you didn’t realize how much it mattered. And that’s the problem. There may be other crucial facts that you don’t know that they matter. I think it’s time to review your situation with a tax professional and get guidance before going any further.
By the way, you shouldn’t make taxes the sole factor when considering a financial decision. Certainly they are an important factor, but not the sole factor. Carrying a vacant property is expensive. There are property taxes, insurance (insurance on a vacant house is expensive!), routine maintenance, major repairs, and so on. Don’t spend $300,000 carrying a vacant house in order to save $150,000 in taxes!
Also, don’t neglect opportunity costs: If you sold the house now the money could be reinvested in something else.
So if she’s already passed the house onto the children, does that mean they don’t get the stepped-up basis when she does pass? In that case, there seems less reason to wait to sell it. But as you said, the situation is more complex than originally presented.
We did not know this and didn’t notify the insurance company when my mother died. We just kept paying as the bills came in. When the company found out that the house was empty, they cancelled the account immediately and sent a check for the months that now wouldn’t be used. We had to scramble to get the house insured. Fortunately, the house was already on the market and it sold sooner than we expected.
Apparently empty houses have a much higher risk of being broken into and vandalized or burned down.
That’s one of the odd twists of the life estate situation: Yes, the remainder owners DO get a step-up in basis on 100% of the house. You may see some web site claiming that they don’t, but that was a special situation in 2010 when the estate tax was repealed for one year (and reinstated in 2011).
And there are a few more non-intuitive twists. For example, 100% of the value of the house at the time of death is included in the decedent’s gross estate and thus could be subject to estate tax.
This. If the OP has been insuring the a vacant house for 10 years without telling the insurance company it’s vacant, they probably actually paid a lot of money for zero actual coverage.
Likewise if anything happens to the house in the future before the OP tells the insurance company it’s vacant he also (probably) has no cover.
