Tax Consequences of Selling a Home

Real estate sales are booming. You decide to sell your property. What do you have to worry about with Uncle Sam? That depends.

Real estate property sales are treated, for tax purposes, dependent upon the type of property it is. Let’s look at several of these and how they differ.

The real estate property you sell could be your main home, your primary residence. If this is the case, there may be a large exclusion that you could qualify for. Many years ago, our tax system had a one-time home exclusion, but that has been replaced. Now, upon meeting the qualifications, you may exclude all or a part of the gain from the sale of your home.

The two primary qualifying tests involve use and ownership for your primary residence. If you have both used and owned your primary residence in two of the last five years, you may qualify for the full exclusion. If you don’t meet all of those tests, you may still qualify for a reduced exclusion amount. In some cases, this reduced exclusion may still exclude all of your gain.

The full exclusion is $250,000 for a single taxpayer, or $500,000 for married taxpayers filing jointly when both owned and used the property. The modified exclusion amount is a reduction of these, calculated by using an appropriate worksheet available from the IRS.

If the property you sell was investment property you had bought and held hoping to make some money, Uncle Sam might also want a chunk. This generally falls under the “capital gains” category. The good news is that most capital gains are limited to the 15% maximum rate. There are some exceptions, so consult a competent professional.

Capital gain property is reported on Form 1040, Schedule D. You must know your cost basis in the property, your date of purchase, date of sale, and the sales price. In most real estate sales, you will receive a Form 1099-S from the closing attorney or other agency. This form will generally state the sales amount and the sales date. The other information you need, however, must come from your records.

A permanent file of such records is highly recommended. You need to keep all HUD statements (or “settlement” statements), which you generally obtain at your real estate closing. These are very important and beneficial in the preparation of your income tax return. Besides the purchase, date, and sales information they provide, they also list specific items that may or may not be applicable to your tax return. These might include property taxes paid, real estate commissions paid, etc. Keep all settlement statements in your permanent files.

If you used this real estate for rental property, this sale is considered “Sale of Business Property” and will be reported on a Form 4797, and attached to your Form 1040. For sales of rental property, the Form 4797 carries back to other portions of your Form 1040. Any gain calculated here may or may not be taxable to you. If taxable, it might be treated as “capital gains” or as “ordinary income”.

Also, in the case of rental property, there may be depreciation recapture that must be accounted for, whether the depreciation was taken or not. This is what the IRS calls “allowed or allowable”, so make sure you verify any depreciation recapture issues that may apply.

If the real estate was business-owned property, generally speaking, similar rules apply to its sale as do to rental property sales. It would also be reported on Form 4797 as a “Sale of Business Property”, and might be subject to depreciation recapture.

If you acquired the property as a gift or by inheritance, there are other specifics you must know and follow in reporting this sale. Generally, the basis you have in a gift is the same as the donor’s basis on the date of the gift. The basis you have in an inheritance generally is the Fair Market Value (FMV) of the property on the date of death of the decedent.

In all cases, it is crucial that you determine your basis to accurately report your property sales, although especially in such cases as property received by gift or inheritance. Sometimes a qualified appraisal may be necessary to help determine property values in such cases as inheritance property. Keep in mind that the costs for these appraisals could, in some cases, be deductible for you as well.

Our tax laws can be quite complex, and the tax consequences of selling your property are dependent on what type of property it was. If it was your main home, certain rules apply. The rules differ, however, if it was investment property. They differ even further if it was rental or business property. And if it was acquired by gift or inheritance, there are certain specifics you must know.

Make certain, no matter what type of property this is, that you have adequate records and consult competent professionals or agencies to assist you in making the proper determinations. Make sure that your tax return truly reflects only what gain, if any, is taxable to you. That way you benefit the most from the sale of your property, and keep as much of the gain as you can. Don’t let Uncle Sam take more than he should.