Expert: liznarr - 2/24/2011

Question
I AM GOING TO SELL MY HOME IN FLORIDA FOR AROUND $70,000 AND BUY A R.E.O. HOME IN FLORIDA FOR AROUND $40,000.WILL I HAVE TO PAY A CAPITAL GAINS TAX ON THE $30,000 PROFIT? IF SO I WILL PUT THE $30,000 BACK INTO THE HOUSE,NEW ROOF,NEW A.C.,NEW FLOORING ETC.WILL THIS ELIMINATE THE CAPITAL GAINS TAX? THANKS CRAIG

Answer
Hi Craig,

Yours is more a tax question than real estate, and I am not qualified to give you accounting advice.  

I am, however, giving you a link below to IRS publication 523 which deals with selling your home, and I’m also giving you a “basic” explanation of current capital gains tax law as it relates to selling a home that is your principal residence.

If your home in Florida is your principal residence, AND you have lived in that home for two of the last five years, and assuming you have not taken this deduction on any other home in the last two years and you otherwise qualify, then you will NOT owe any capital gains tax on your profit, or gain.

Basically, an individual can exclude $250,000 of GAIN on the sale of a principal residence.  For a married couple, the maximum excludable amount of GAIN is $500,000.  For individuals AND married couples, this exclusion (under current law) can be taken every two years on the sale of a new principal residence.

The difference in your sales price of $70,000 and your new purchase of $40,000, which is $30,000, is NOT your gain as it relates to the IRS rules.  Your gain on the sale of your home at a sales price of $70,000 is computed as follows:

Sales Price   $70,000
      Less    (Original Purchase Price)      
      Less    (Capital improvements you made to your home during your ownership)
      Less   (Selling Expenses)
Balance     =   GAIN

Your $40,000 purchase price for the REO home is your starting basis for that “new” home.  Be sure and keep records/receipts of any capital improvements you make to any home, so if you are ever audited, you will be able to document your figures.

Capital improvements, by IRS terms, are any improvement or addition made to a property with a useful life of more than one year, such as a new roof, a new HVAC system, or new hardwood flooring.  Maintenance items such as simple repairs to a leaky faucet are exactly that, maintenance items, and are not considered a capital improvement – unless, for example, you replace major plumbing items in a house.      

Read the publication in the link below and/or call an accountant or tax preparer if you have questions and to also verify my writing above.  Deductible selling expenses will be defined in the links below.

Here’s a link to information on IRS publication 523 where you can read more:
http://www.irs.gov/publications/p523/ar02.html#en_US_2010_publink1000200711

The link to the actual publication 523 is:
http://www.irs.gov/pub/irs-pdf/p523.pdf

Good luck to you, and feel free to write again if you have additional real estate questions.

Regards,
Elizabeth