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Capital
Gains Tax on the Sale of Your Principal Residence
C.A.R. Q&A on Capital Gains Tax Law
Updated 12/8/04
Has the tax bill signed by the President on August 5, 1997 impacted
the real estate industry? Yes! The bill made significant changes
that benefit real estate including capital gains tax exclusions on the
sale of a principal residence, a reduction in overall capital gains
rates, penalty-free withdrawals from existing and new IRA's for the
purchase of a home by a first time buyer, increased deductions for health
insurance premiums for the self employed, clarifications of the home
office deduction requirements and reduced estate taxes.
If I sell my home how will I be impacted?
The new tax bill grants married couples up to a $500,000 capital gains
tax exclusion for the sale of a principal residence where the owner
has resided two of the last five years. Singles enjoy a $250,000 exclusion.
Any profits in excess of the caps will be taxed at the new lower capital
gains tax rate. Best of all, this principal residence exclusion can
be reused over and over again. Homesellers who have owned and lived
in their homes for less than two years qualify for a smaller tax exclusion
based on length of ownership/residnece.
Can I still "rollover"
the proceeds from a home sale if I purchase a home of greater or equal
value?
No. The "rollover" provision in current law which allowed
an individual to avoid capital gains taxes by purchasing a home of equal
or greater value has been repealed in favor of the exclusion.
What if I am over 55 years
of age and I already used my one-time exclusion of $125,000? Can I take
advantage of the new law?
Yes. Although the $125,000 exclusion for individuals over the age of
55 has been repealed, the new law allows any couple, regardless of age,
to exclude from taxes up to $500,000 in capital gains or $250,000 for
singles every two years for an unlimited number of transactions involving
their principal residence.
I sold my home before
the President signed the bill. Do I still qualify for a capital gains
tax exclusion?
Maybe. Sellers and buyers who have signed a "binding contract"
between May 7, 1997 and the day President Clinton signed the bill (August
5) are authorized to use either the existing rollover law or take advantage
of the new tax provisions. Individuals who completed the sale of their
home prior to May 7, 1997 are bound by the tax laws in effect at that
time. For home sales after the August 5 date, the new tax laws are applicable.
Are losses on the sale
of a residence deductible?
No. Taxpayers still cannot deduct losses on the sale of their residence.
What are the new capital
gains rates?
Capital gains rates are based on an individual's taxable income. Under
the 2003 law, capital gains rates are lowered from the previous rate
of 20% to 15% for those in upper income brackets and from 10% to 5%
for those in lower tax brackets for assets sold after May 6.
How long is the holding
period for assets to qualify for capital gains tax treatment?
Thanks to the IRS Restructuring and Reform Act of 1998, assets held
12 months are eligible for capital gains treatment.
Is investment property
taxed differently than other assets under the new bill?
The new budget plan specifies that at the time of sale of an investment
property, any gains due to appreciation will be taxed at a reduced 15%
rate and gains due to "depreciation recapture" will be taxed
at 25%.
Have the rules governing
1031 "like kind" exchanges changed?
Yes, a separate new tax law, signed by President Bush on October
22, 2004, will amend the current capital gains law as it pertains to
1031 exchanges. Under the new law, a property that is acquired through
a 1031 exchange and then converted to a principal residence must be
held for five-years to qualify for the capital gains exemption.
The new law pertains only to properties acquired through 1031 exchanges
that are converted to principal residences, and not to properties bought
as a principal residence or investment properties not converted to principal
residences.
Can I withdraw money from
my Individual Retirement Accounts (IRAs) for the purchase of a home?
The tax bill allows penalty-free withdrawals by grandparents, parents,
children, spouses or principals of up to $10,000 from existing and newly
created "American Dream" IRAs for the down payment and closing
costs of purchasing a first-time home, after December 31, 1997.
ALL OF THESE MATTERS ARE
SUBJECT TO REGULATORY INTERPRETATION. PLEASE CONSULT YOUR TAX ADVISOR.
Proposition
13
Proposition 13, approved
by voters in 1978 implemented many changes in the state's tax laws:
- Capped property taxes
at 1% of assessed value
- Rolled back assessed values
to 1975 levels.
- Allowed for a 2% annual
increase in assessed values to compensate for inflation.
- Required two-thirds voter
approval of all local "special taxes".
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