by Phoenix attorney Christopher A. Combs, partner with Combs Law Group, P.C.
Question:
I purchased a home in Tempe seven years ago for $325,000. I have been the sole resident of the home. Three years ago when I was thinking of getting married to a lady with two children, I spent almost $100,000 adding another bedroom and a bathroom to my home. The home is now worth $725,000. I know that the Internal Revenue Service says that, as a single person who has lived in the home for at least two of the five preceding years, I am entitled to a tax exemption of $250,000 on the gain on the sale of my home. If I sell my home for $725,000, will I have to pay capital gains tax on $150,000, which is the difference between my gain of $400,000 and the $250,000 capital gains exemption?
Answer:
The increase in value of the ranch does not just magically disappear. The Internal Revenue Code simply provides that there is no tax owed on this increase in value when the asset is sold. For example, if the mother bought the ranch forty years ago for $10,000 and the ranch is worth $1,000,000 at the time of the mother’s death, there will be a ” step-up” in basis of the ranch from $10,000 to $1,000,000. The result is that, if the brother and sister sell the ranch for $1,000,000, there will be no capital gains tax owed, or if they sell the ranch for $1,200,000, there will be a capital gains tax owed only on $200,000. This ” step-up” in basis for inherited property is probably the greatest tax break in the Internal Revenue Code, and is available not only for real estate but for other assets such as stocks and bonds. Note: The mother’s estate may be liable for estate taxes at the time of her death on the value of her ranch and other assets.
The above is for informational purposes only and is not intended as definitive legal or tax advice. You should not act upon this information without seeking independent legal counsel. If you desire legal, tax or other professional advice, please contact your attorney, tax advisor or other professional consultant. Reprinted with permission. Copyright 2006, all rights reserved.