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Income Deductions for Taxable Real Estate Sales

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Selling a home can be just as exciting as buying a new one if you are able to bank some sizable profits. The euphoria may fade at tax time, though, because Uncle Sam may want a large share of those capital gains. That’s why it is important to understand all of your options in terms of what you can legally deduct from your taxable profits. Most homeowners are happily surprised to learn all of the different things that can be considered – including everything from Realtor commissions to travel expenses for checking on your rental property. Below is an overview of some of the items that are commonly used to lower the capital gains taxable income on eligible real estate sales.

Your Primary Residence

If the property you sold was your primary residence, you likely have already been enjoying a hefty mortgage tax deduction every year. You may want to buy another home rather than renting in order to preserve that (unless Congress eliminates it) and to continue the experience of owning your own home. Meanwhile, if the home you sold served as your primary residence for at least two years during the 5-year period ending on the date of sale, you can exclude up to $250,000 in capital gains – or as much as $500,000 if you file jointly with your spouse. To learn more you can consult the IRS Publication 523, Selling Your Home, where Topic 409 covers general capital gain and loss information.

The Cost of Capital Improvements to Your Home

The IRS lets you add the expense of many home improvements to your cost basis, as long as they add value to the home, prolong its useful life, or adapt it to new ways of using the home.

There may be relatively small repairs that are done as part of a larger home improvement that would not qualify by themselves, but do qualify since they were lumped-in with the overall project.

Here are some examples provided on the IRS website of the kinds of projects or improvements that do usually qualify to offset your capital gains and lower your tax basis:

Additions Lawn & Grounds Heating & AC Plumbing Interior Improvements Insulation  Misc.
Bedroom Landscape Heating System Septic System Built-in Appliances Attic Storm Windows/Doors
Bathroom Driveway Central AC Water Heater Kitchen Modernization Walls New Roof
Deck Walkway Furnace Soft Water Heater Flooring Floors Central Vacuum Unit
Garage Fence Duct Work Filtration System Wall-to-Wall Carpet Pipes & Duct Wiring Upgrades
Porch Retaining Wall Central Humidifier       Satellite Dish
Patio Sprinkler System Filtration System       Security System
  Swimming Pool          

Your home's adjusted basis does not include the cost of any improvements that you later got rid of or replaced so that they are no longer part of the home. Let’s say you spent $20,000 to upgrade your downstairs bathroom, for example, and later tore it out when you remodeled your kitchen and expanded it into the space where that bathroom used to be. You can use the expense of the kitchen improvement, but not the cost of the $20,000 bathroom makeover. The same would apply if you paid for wall-to-wall carpeting that was later removed because you wanted hardwood floors. The cost of that carpet no longer applies to your adjusted tax basis.

Good Record Keeping

According to the Harvard University Joint Center for Housing Studies, spending by Americans on home improvements will grow by double digits during the next few months. Hundreds of thousands of homeowners spent at least $100,000 or more on similar projects even during the housing market recession. Americans love to add equity to their property through add-ons and upgrades; however, many of them don’t keep receipts and accurate records, so when it comes time to sell they don’t have sufficient evidence to show the IRS. In addition to records of home improvements, every homeowner should maintain documents to verify the home’s purchase price and the expenses related to that purchase. When it’s time to sell the same kinds of figures for the sale of the home are also valuable for calculating taxes.

Did you have to relocate and sell your home because your employer transferred you? Oftentimes when an employee moves for work, the employee may be reimbursed or paid by their company for the expenses related to the sale of that home. If that’s the case with you then you shouldn’t tack those costs on to your home sale expenses. Instead, your employer is supposed to include them as wages on your W-2 Form.

To sort out all the details and get more specific information and answers, visit the IRS site, review their criteria and consult an experienced and qualified tax preparation professional.

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