Q&A: Figuring homes’ adjusted basis

Dear Liz: In your response to a question about the adjusted basis of a residence after the death of a spouse, you state that the surviving spouse may add to the adjusted basis “any commissions or fees paid to purchase the property and the cost of improvements.” Your example adds $150,000 in “improvements over the years” to the $850,000 value of the home at the time of the spouse’s death in 1992. Wouldn’t those improvements (and other costs) have to be made after the date of the spouse’s death, since otherwise they would already be included in determining the value of the home at the date of death?

Answer: Good point. If the surviving spouse lives in a community property state, only improvements that happened after the date of the first spouse’s death would increase the basis, because both halves of the property get a step up to the current fair market value when one spouse dies. In other states, only the deceased spouse’s half of the property would get the step up. The surviving spouse can add his or her half of the improvements made before the death, and anything done after the death, to the tax basis to determine home sale profits.

Q&A: Capital gains on house sale

Dear Liz: I am one of those seniors who purchased their house in the 1970s. I would like to move but I’m reluctant because of the huge capital gain tax that I would have to pay. The exemption amount has not been raised since 1997 when it was enacted. In comparison, the estate tax exemption has risen from $600,000 in 1997 to more than $11 million currently. Wouldn’t raising the capital gain exemption stimulate the real estate market as more people would put their homes on the market and give more first-time buyers a chance at homeownership?

Answer: Perhaps, but you shouldn’t let tax law be the sole determinant of what you do or don’t do. Minimizing taxes can be a factor in your decisions but shouldn’t be the only one.

Also, keep in mind that the median home price in the U.S. is currently $226,300, according to real estate site Zillow. Most homeowners haven’t seen and probably won’t see enough appreciation to use a single $250,000 exemption, let alone the $500,000 available to couples.

So you may have a problem, but it’s an enviable problem. Even if you pay taxes at top rates, you’ll still have a substantial sum left over. And you may be able to spread out the tax bill using an installment agreement, in which the buyer pays you over time. You’ll want a tax pro’s help if you go that route, but you should consult one in any case to make sure you’re taking advantage of every other legal opportunity to reduce what you owe.

Q&A: Loans, taxes and home sales

Dear Liz: You recently answered a question about determining home sale profits for a widow. My question is how you calculate taxes when there’s a loan in the mix. For instance, when I bought my home, I took out a mortgage. Subsequently, I took out a second mortgage to pay for a pool and landscaping. I also refinanced several times, but never took a mortgage with cash out. Please advise me how to calculate my cost basis given these loans. Of course, you can broaden your response to include other loan scenarios and how they play into cost basis.

Answer: This will be a short answer, because they don’t. What you owe the mortgage lender(s) is typically irrelevant for calculating your capital gain.

Q&A: Figuring home-sale taxes

Dear Liz: My husband and I bought a home in Los Angeles in 1976 for $200,000. He died in 1992. The value of the house was at that time about $850,000. (I had it appraised.)

I want to sell the house now. The value is about $2 million. How much would be the stepped-up base for capital gain tax when I sell it?

Answer: In most states, only your husband’s half of the home would have gotten a new tax basis at his death. (A tax basis is used to determine potentially taxable profit.) In community property states such as California, however, both halves of a property get the step up in basis when one spouse dies.

You can add to your basis any commissions or fees paid to purchase the property and the cost of any additions or improvements. What you spent on maintenance and repairs doesn’t count. The improvement must add to the value of your home, prolong its useful life or adapt it to new uses to qualify, according to the IRS.

To figure your taxable profit, you’ll take the net amount you receive from the sale — the sale price minus any commissions or fees paid to sell the home — and subtract your basis from that. You can exempt up to $250,000 of the home sale profit, but you would pay long-term capital gains rates on the rest.

Let’s say you invested $150,000 in improvements over the years. That would be added to your $850,000 basis for a total adjusted basis of $1 million. Let’s also assume you pay $100,000 in commissions to sell your home, netting $1.9 million. Your $1 million basis would be subtracted from the $1.9 million, leaving you with a $900,000 home sale profit. Because $250,000 of that would be exempt, you would owe long-term capital gains tax on $650,000.

Friday’s need-to-know money news

Today’s top story: Credit basics you need to know. Also in the news: How a new homeowner bought a house in Vegas, 11 cheap date ideas, and what to do if your tax preparer can’t file your taxes by April 15th.

More Than Your Score: Credit Basics You Need to Know
You’re more than just a number.

How I Bought a Home in Las Vegas
One new homeowner’s story.

11 Cheap Date Ideas
Spend less without feeling like a cheapskate.

What to Do If Your Tax Preparer Can’t File Your Taxes by April 15
A look at extensions.





Tuesday’s need-to-know money news

Today’s top story: Home affordability watch: the priciest and cheapest time zones. Also in the news: 5 things you don’t have to pay a tax preparer to do, cheap flights to Hawaii, and the 10 cities most prepared for retirement’s financial realities.

Home Affordability Watch: Priciest and Cheapest Time Zones
NerdWallet crunches the numbers.

5 Things You Don’t Have to Pay a Tax Preparer to Do
You can handle these on your own.

Say Aloha: Southwest Flights to Hawaii Are Now on Sale
Time for a vacation?

The 10 cities where seniors are the most prepared for retirement’s financial realities
Did yours make the list?

Friday’s need-to-know money news

Today’s top story: 3 things that will change when you’re a homeowner. Also in the news: 3 times you can pay taxes with plastic and come out ahead, eight ways you can save money right now, and what happens if you default on a loan.

3 Things That Change When You’re a Homeowner
All you’ll think about is money.

3 Times You Can Pay Taxes With Plastic and Come Out Ahead
Build up your rewards.

Eight Ways You Can Save Money Right Now
Automate your savings.

What Happens if You Default on a Loan?
Don’t take it lightly.

Tuesday’s need-to-know money news

Today’s top story: How to resist online ads and keep your money. Also in the news: Avoiding a common student loan scam, a NerdWallet special report on home buyers, and why you should schedule an extra student loan payment on the day the interest is lowest.

How to Resist Online Ads and Keep Your Money
Fighting temptation.

She Fell for a Common Student Loan Scam. You Don’t Have To
Don’t get duped.

Recent Home Buyers Stretched, Future Hunters Optimistic
A NerdWallet special report.

Schedule an Extra Student Loan Payment on the Day the Interest Is Lowest
Make sure the payment is applied correctly.

Q&A: Cash is king when it comes to home improvements

Dear Liz: My husband and I are squabbling over how to pay for the pool we may get. We have a line of credit on the house, and rates are still low. I say we use that, make it part of the mortgage and pass the cost on to the next owner (assuming that, someday, we sell this house). He wants to pay cash, which seems insane to me. I don’t pay cash to buy a car — why wouldn’t I finance a pool?

Answer: You probably should pay cash for your cars. Borrowing money is usually advisable only when you’re buying something that can increase your wealth, such as an education that helps you make more money or a home that can appreciate in value. Paying interest to buy something that declines in value generally isn’t a great idea.

Whether a pool can add value to your home depends a lot on where you live. If pools aren’t common in your neighborhood, adding one may not add much if any value. A pool could even place you at a disadvantage by turning off potential buyers who might not want to deal with the hassle and expense of pool maintenance. Parents with young children also may shy away from pools because of the drowning risk.

Adding a pool could increase your home’s value if you live in a warm climate and most of your neighbors have pools. But even then, it’s unlikely that your pool will add as much value as it would cost to install. (Home improvements rarely result in a profit — even the best-considered upgrades typically cost more than the value they add.)

A reasonable compromise might be to finance half the cost and pay cash for the rest. You’ll still want to pay off the line of credit relatively quickly, though. Lines of credit typically have variable interest rates that can make this debt more expensive over time.

You won’t be passing on the cost to the next owner in any case. Any money you borrow against your home has to be paid off when you sell, reducing your net proceeds. That’s yet another reason not to borrow indiscriminately.

Wednesday’s need-to-know money news

Today’s top story: 3 colleges that help you handle student debt. Also in the news: How one couple purchased a home in Oakland, Marriott/SPG cards are getting a makeover, and how to get reimbursed for old medical expenses with your HSA.

3 Colleges That Help You Handle Student Debt
You’re not alone.

How I Bought a Home in Oakland
One couple’s story.

Bonjour, Bonvoy: Marriott, SPG Cards Getting New Names, Perks
New goodies.

Get Reimbursed for Years-Old Medical Expenses with Your HSA
No time limit on reimbursements.