Avoiding Capital Gains Taxes
Everyone owning a house or stocks should be aware of the capital gains tax rules. Both the federal and state governments impose a tax on the sale of real estate or stocks that have gone up in value over the years. But the tax laws have important exemptions that can result in no tax, or even a capital loss rule that will reduce taxes on your other income.
Let’s look at the family home. If you bought it decades ago, at a far lower price than it is worth now, and you sell that home, that is technically a capital gain. So if it was bought at $30,0000 in the 1960’s, and is now worth $250,000 (and that is realistic) the gain is $220,000. The capital gains tax on that would be large, except that Congress passed a law that exempts your primary home from the first $250,000 of gain, as long as you have lived in the home for two out of the last five years. And for married couples, that means the exemption is double, or $500,000. The exemption is not on the price, it is on the gain. So if the house was bought at $100,000, and sold at $600,000, the difference is $500,000 and is exempt for the married couple who have a combined $500,000 exemption.
This becomes very important when families consider planning for long term care due to illness or the infinities of old age. A very common thought they have is to put the home in the names of their children to get beyond the five year lookback rule, which is a Medicaid law that says if you ask Medicaid to pay for your care, it will penalize you for making a gift just to get government benefits. But when the kids go to sell your house that they do not live in, they will pay a 27 percent capital gains tax (20 percent Federal and 7 percent State). That is a bad result and there are ways to avoid it. A key method is to give the house to an irrevocable trust that has tax clauses which preserve the $250,0000 exemption that each spouse has.
That way the house is out of your name, but as long as you live in the house for 2 out of the last 5 years before sale, no capital gain, even though the children are the beneficiaries and will get the proceeds without paying any capital gains tax.
An even more favorable tax result can occur if the home has gone up in value and appreciated to hundreds of thousands or a million dollars or more. In this case, another part of the capital gains law says that upon your death, the IRS and Connecticut will treat the house as if you had bought it at the value on the date of
your death, which is called a “step up in basis.” In other words, IRS raises the tax basis to the value on the date of your death, and when your children sell it, there is no capital gains tax up to the value on the day you died. This can mean tens of thousands of dollars in capital gains tax savings.
The lesson is this brief discussion of capital gains tax laws, especially on your primary home, is that you should get complete and competent advice if you plan to give your kids that house you worked hard for all your life, and other assets such as stocks that are subject to capital gains taxes. So if you are contemplating gifting to your children, talk to your accountant or an elder law attorney who knows both
the Medicaid rules and the capital gains tax laws. It can mean a huge difference for your children.
Let’s look at the family home. If you bought it decades ago, at a far lower price than it is worth now, and you sell that home, that is technically a capital gain. So if it was bought at $30,0000 in the 1960’s, and is now worth $250,000 (and that is realistic) the gain is $220,000. The capital gains tax on that would be large, except that Congress passed a law that exempts your primary home from the first $250,000 of gain, as long as you have lived in the home for two out of the last five years. And for married couples, that means the exemption is double, or $500,000. The exemption is not on the price, it is on the gain. So if the house was bought at $100,000, and sold at $600,000, the difference is $500,000 and is exempt for the married couple who have a combined $500,000 exemption.
This becomes very important when families consider planning for long term care due to illness or the infinities of old age. A very common thought they have is to put the home in the names of their children to get beyond the five year lookback rule, which is a Medicaid law that says if you ask Medicaid to pay for your care, it will penalize you for making a gift just to get government benefits. But when the kids go to sell your house that they do not live in, they will pay a 27 percent capital gains tax (20 percent Federal and 7 percent State). That is a bad result and there are ways to avoid it. A key method is to give the house to an irrevocable trust that has tax clauses which preserve the $250,0000 exemption that each spouse has.
That way the house is out of your name, but as long as you live in the house for 2 out of the last 5 years before sale, no capital gain, even though the children are the beneficiaries and will get the proceeds without paying any capital gains tax.
An even more favorable tax result can occur if the home has gone up in value and appreciated to hundreds of thousands or a million dollars or more. In this case, another part of the capital gains law says that upon your death, the IRS and Connecticut will treat the house as if you had bought it at the value on the date of
your death, which is called a “step up in basis.” In other words, IRS raises the tax basis to the value on the date of your death, and when your children sell it, there is no capital gains tax up to the value on the day you died. This can mean tens of thousands of dollars in capital gains tax savings.
The lesson is this brief discussion of capital gains tax laws, especially on your primary home, is that you should get complete and competent advice if you plan to give your kids that house you worked hard for all your life, and other assets such as stocks that are subject to capital gains taxes. So if you are contemplating gifting to your children, talk to your accountant or an elder law attorney who knows both
the Medicaid rules and the capital gains tax laws. It can mean a huge difference for your children.
Attorneys Stephen O. Allaire (Of Counsel) and Halley C. Allaire are partners in the law firm of Allaire Elder Law.
Attorneys Stephen O. Allaire (Of Counsel) and Halley C. Allaire are members of the National Academy of Elder Law. Attorneys, Inc.
Allaire Elder Law is a highly respected, and highly rated law firm with offices in Bristol, CT.
We can be contacted by phone at (860) 259-1500 or by email.
If you have a question, send a written note to us and we may use your question in a future column.
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