Despite lifestyle benefits, hidden costs exist
DEAR DAVID: You are absolutely correct. If your parents gift you their house now, for tax purposes, their basis becomes your basis, i.e., "the giftee's basis is the giftor's basis."
Basis is one factor in determining profit or loss.
On the other hand, if you inherit the house on their death, you get what is known as the "stepped-up" basis. That means that the value of the property on the date of death becomes the tax basis.
Let me give you an example: Your parents bought the house many years ago for $100,000. Their tax basis is $100,000. For purposes of this column, I am ignoring such matters as major improvements made to the house, which will increase the basis.
Now, they give you the house. Let's say it's now worth $400,000. Your basis is $100,000. If you decided to sell (and could not take advantage of the up-to-$250,000 (or, if married and filing a joint tax return, $500,000) exclusion of gain, you will have to pay capital gains tax.
So let's say you sell it for $400,000. Again ignoring real estate commissions and other sale-related expenses, you have made a profit of $300,000 ($400,000 minus $100,000). The federal tax rate currently is 15 percent, so you will have to send a check to the Internal Revenue Service in the amount of $45,000. And you may have to pay state and local capital gains tax as well.
Change the facts: Your dad died when the property was worth $200,000. Remember that the tax basis for each of your parents was $50,000 (since they bought the house for $100,000.) Your mother gets the stepped-up basis for half of the house (your father's share) so now her basis is $150,000 ($100,000 plus $50,000).
Now, the house is worth $400,000 and your mother dies. Your basis is $400,000. If you sell it for the price, you have made no profit and thus will not have to pay any capital gains tax. Obviously, if you sell it for more than your basis, you will have to pay tax on the difference.
There may be, of course, situations where it makes sense for the parents to gift the house during their lifetime. Everyone -- including your parents -- should consult with their own counsel before making a decision.
DEAR BENNY: I am considering purchasing a vacation/rental property out of state. While I am familiar with real estate laws, terminology and procedures in our state, I am totally unfamiliar with those of the other state. Do you have any suggestions for websites that will get me up to speed on a state's real estate process? Also, what questions should I ask when interviewing prospective buying agents? We plan to interview at least three, but do not know how to evaluate their effectiveness in an unfamiliar market. --Wes
DEAR WES: While I am sure there is a lot of state-specific information on the Internet, my suggestion is to retain a local attorney in the area where you are considering buying. If you don't know any lawyer, it is my understanding that most state (or local) bar associations have referral programs. Alternatively, many people find lawyers on the Internet, but that, of course, is always risky.
As for evaluating real estate agents and brokers, once again your local attorney may be helpful, although you want to make sure that the lawyer does not represent the agent he/she is referring.
If I were in your shoes, I would try to interview three brokers: one with a large company, one with a small company and perhaps one who is a sole practitioner.
You should choose an agent you are comfortable with and who does not try to impress you with how many sales he or she has completed. And, when you finally decide to retain a broker, I suggest that you provide in any contract that you have the absolute right to terminate the contract at any time, with or without cause, provided that the broker has not already located a property for you.
Benny L. Kass is a practicing attorney in Washington, D.C., and Maryland. No legal relationship is created by this column. Questions for this column can be submitted to firstname.lastname@example.org.
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