I understand that a married couple is entitled to a $500,000 deduction on long term capital gains for the sale of the home they have lived in for over two years.
If one should die, am I correct to assume that the surviving spouse will now only be entitled to only a $250,000 deduction of the capital gains?
Also if a person inherits a home what determines the adjusted cost basis for their inherited property should they live in the house for two years and then decide to sell the house?
If the house is sold in the year of death and the surviving spouse files a joint return with the deceased spouse, the $500,000 exclusion limit applies. If sold following the year of death and the surviving spouse has not remarried, the exclusion limit is $250,000.
A surviving spouse who inherits the property gets a ½ basis step-up if domiciled in a non-community property state. If domiciled in a community property state, the surviving spouse's basis is stepped up to 100% of fair market value (FMV). See the list of community property states at the link below.
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A nonspousal survivor who lives in any state gets a 100% basis step-up to FMV.
Do I assume that if the spouse sells the home the same year and puts the proceeds into another home, the capital gains will again be deferred?
domiciled in a non-community property state. Please explain term 1/2 basis step up
Does this mean that a daughter who inherits a home with a market value at the time she inherited it of $750,000 and decided to sell it, her cost basis would be 500,000? If the parent had a $500,000 capital gain on the house that was postponed what happens to that gains tax and the $250,000 capital gains exclusion that the parent never used?
There is no deferral of capital gains. The old deferral rule (IRC § 1034) was repealed in 1997 and replaced with the current $250,000/$500,000 exclusion. For more information, see IRS Publication 523. Also, BNA has a good tract on sale of a personal residence.
As of the Taxpayer Relief Act of 1997, capital gains on house sales are no longer deferred. The capital gains exclusion refers to each sale of a house, whatever is done with the proceeds. So if the spouse sells the house in the same year, $500000 of capital gains on the sale are not taxed.
Normally, the basis for the sale of the house is what was paid for the house. However, if any property is inherited, the basis for the property is stepped up to the fair market value of the property at the time of death. The surviving spouse inherits half of the house, so the basis for the house becomes half of the original basis ( the basis for the spouse's half of the house) plus one half the fair market value of the house ( the half of the house that was inherited). Given a house that was purchased for $100K and is worth $500K, the basis of the house is stepped up from $100K to $300K, upon the death of either spouse with the other spouse inheriting.
No. The basis is $750000, because the basis is stepped up to 100% of the fair market value.
If the parent had a $500,000 capital gain
The step up eats the capital gain. A capital gains exclusion only applies to a sale not to a person.
Just idle curiosity, I guess, took me to this address, and I found the BNA write-up - just the first paragraph - to be less than thorough:
"The maximum amount of gain that a taxpayer can exclude from the sale or exchange of a personal residence is $250,000 ($500,000 for married taxpayers filing jointly), but this only applies if the taxpayer has lived in the home for two of the five years preceding the sale and has not sold another home within two years."
"...this only applies...." *What* only applies? The maximum amount? The exclusion?
Is the residence "personal" or "principal" or is it "the main home"? OK, they probably get to that somewhere else...
What about the ownership requirement? And the exclusion can't be used within two years of a sale *that the exclusion applied to*.
The other replies to this post have overlooked the changes that were embedded in the Mortgage Forgiveness Debt Relief Act of 2007 (H.R. 3648). Starting January 1, 2008, the time period for the surviving spouse to utilize the $500,000 exclusion is extended to any sale that occurs within two years of the date of death.
SEC. 7. APPLICATION OF JOINT RETURN LIMITATION FOR CAPITAL GAINS EXCLUSION TO CERTAIN POST-MARRIAGE SALES OF PRINCIPAL RESIDENCES BY SURVIVING SPOUSES.
(a) Sale Within 2 Years of Spouse's Death- Section 121(b) of the Internal Revenue Code of 1986 (relating to limitations) is amended by adding at the end the following new paragraph:
`(4) SPECIAL RULE FOR CERTAIN SALES BY SURVIVING SPOUSES- In the case of a sale or exchange of property by an unmarried individual whose spouse is deceased on the date of such sale, paragraph (1) shall be applied by substituting `$500,000' for `$250,000' if such sale occurs not later than 2 years after the date of death of such spouse and the requirements of paragraph (2)(A) were met immediately before such date of death.'.
(b) Effective Date- The amendment made by this section shall apply to sales or exchanges after December 31, 2007.
The reference to sec. 121(b)(2)(A) is to the part that says a married couple have to jointly meet the two year use test and at least one spouse must be meet the two year ownership test.
In other words, if at the time of death of one spouse, the couple qualified for the $500,000 exclusion, the surviving spouse will continue to receive the $500,000 exclusion as long as the house is sold within two years of the date of death. This is in addition to any step-up in cost basis at the time of death.
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