Selling Real Property: Tax Implications and Considerations

Reporting the sale of real property could be either really complicated or relatively simple, depending on the facts and circumstances. The type of property will also impact the manner and type of taxes that need to be paid.

There may also be different tax ramifications depending on who you are selling the real property to and the structure of the sale. For instance, selling real property outright is different than selling property as an installment sale. In an installment sale, you are receiving payments periodically (annually, monthly, etc.) for an extended period of time and may be able to delay the reporting and taxation of these periodic payments until they are actually received—rather than all at once in an outright sale.

Be mindful of what type of property you are selling, who you’re selling to, and the structure of the sale.

For the most part, proceeds from the sale of real property are usually reported as capital gains if the sale proceeds exceed the basis, the adjusted basis, and any applicable exclusions or credits. This is the case regardless of the type of real property being sold.

If you sell real property for more than its adjusted basis (which is what you bought it for plus capital improvements) then there will be a gain, and you will likely owe a capital gains tax liability if the gain cannot be offset by a capital loss. If the real estate is your personal and primary residence, then you may be entitled to up to a $250,000 exclusion for a single person and $500,000 of exclusion from the gain for a married person.

For example, let’s say a married couple bought a house for $100,000, and then years later sold it for $600,000. The home qualifies as your primary residence, and you and your spouse have lived in the property for at least two of the last five years. You could potentially get a $500,000 exclusion and not have to report a dime of that as a gain. This is significant, because that would mean you don’t owe any taxes on the sale.

When selling a property, it’s important to be mindful of the basis.

The basis will determine the amount of gain or loss, if any. If you are an individual selling your property, you should know the purchase price plus any capital improvements you’ve made towards the house, which will determine the basis.

Let’s take a look at Tom and Jane. They are a married couple who bought property for $100,000 twenty years ago. They put in a new kitchen for $20,000 and a new roof for $5,000. They recently sold the property for $200,000. Their basis was $125,000 ($100,000 to buy the house + $25,000 of capital improvements put into the house).

The sale price of $200,000 minus the original basis of $100,000 and the adjusted basis of $25,000 leaves a gain of $75,000. If they are eligible for the exclusion of $250,000 per person, then they may not have to report the sale and will definitely not owe any tax liability. If they aren’t eligible for the exclusion, then the $75,000 gain must be reported and they may owe a tax liability if they do not have sufficient capital losses to wash out the gains.

If you are an executor or trustee who is selling real estate with an estate or trust, then you may be a step-up in basis of the property, which means that the basis of the property is the fair market value of the property as of the date of death of the decedent, rather than the purchase price plus capital improvements.

For example, let’s consider John who purchased a house for $100,000 a few years ago and made $25,000 worth of capital improvements to the home, and as a result the house is now valued at $200,000. If John suddenly died, then his basis is not $125,000 but instead $200,000 because of the step-up in basis. If the executor or trustee sells the house for $200,000 then it will be a wash and not gain should be reported. In this case neither the purchase price or capital improvements made to the property matter for tax purposes. What matters is the fair market value as of the date of death.

Please do not hesitate to contact us with questions.