What is Capital Gains Tax?

Although you have just recently purchased your home, the time to start planning for capital gains tax is now. We live in an area that not only has a history of rapid price appreciation, the higher cost of entry to buy a home means that reaching the capital gains threshold when selling your home could be a reality.

Currently the Federal Government taxes capital gains on home sales where an excess of $250,000 is gained for individuals and $500,000 for couples. For example, say you bought a home for $300,000 and sold it for $400,000. That is a $100,000 gain and generally no capital gains tax is due. However, let’s say you bought your home for $300,000 and sold it for $600,000. Capital gains tax would indeed be due on the $50,000 gain ($300,000-$250,000=$50,000 gain assuming there were no other costs involved to sell the property).

With the median price beginning at a higher point, a percentage gain will have a greater impact. For example, a 10% gain on a $200,000 home is $20,000, but on a $600,000 home it is $60,000.

Over the 5-10 years of home tenure you can see that planning for capital gains tax is something that some need to consider. However, what many people don’t know is that any costs you have to improve a property can offset the amount that is taxed.

For example, say you added a garden shed to your property for a cost of $2,000. That $2,000 is a capital improvement and can be used to increase your cost basis (your initial investment in the property), decreasing your liability. Adding a new deck or patio? Adding a bathroom? Those may all be counted as capital improvements. However, if you are simply repainting your house, fixing the furnace, or replacing the dishwasher, that all counts as normal maintenance, not an improvement, and cannot be counted towards your cost basis.

Light annual accounting will make easy work of your taxes when you sell AND this is great information to have for your future listing. I recommend:

  • Annually, make a list of any improvements you have made to your home and make copies of all your expenses. Yes, this means you need to keep your receipts!
  • Keep this annual report and the receipt copies in a special folder that stays in your filing system year in and year out until it is time to sell.
  • If you aren’t sure if something you are doing counts as an improvement or simply maintenance, go ahead and include it in your list, but highlight it as this is something you can ask your accountant about later.
  • If you are making and improvement and doing maintenance at the same time, adding descriptions that accompany the receipts, indicating what expenses count towards the improvement versus maintenance will help you remember these details later.
  • You can read more about this in the IRS Publication 523

Although people grumble about having to pay taxes, there are big dividends to be had when owning property in our area. High capital gains is a good problem to have! A little planning to offset some of that tax now will benefit you when it is time to sell. Questions? Contact me at (206)762-0682 or send an email: cloudcityhomes@gmail.com.

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