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Tax Attorney's Tips To Minimize Taxes

By Jack E. Stephens, Esq. (1/1/2012)

Capital Gains Tax on Appreciated Assets

Although the housing market has declined or leveled off for most of San Diego County, many homes continue to hold significant capital gain. With that in mind, it is important how you hold title to the home and how you transfer it to heirs. For example, if Jake and Jenny, husband and wife, bought a home in 1970 for $100,000 and it is now worth $900,000, they have $800,000 worth of capital gain. Assuming they have not improved the property, their cost basis is $100,000, which is subtracted from the fair market value (f.m.v.) of $900,000. If they improved the property over the years with an additional bedroom or a new deck, etc., that cost may be added to the cost basis to reduce the capital gain. Gain is only realized upon the sale of the property.

Jake and Jenny initially took title as Joint Tenants, which most people do on the purchase of the home. Unknown to many, holding title as joint tenants is a tremendous tax disadvantage. If either Jake or Jenny were to die while holding title as joint tenants, only 50% of the interest in the property would receive a step-up in basis to f.m.v. The 50% interest owned by the survivor would remain at th original cost basis of $100,000. Thus, the new basis would step-up to $500,000, still leaving $400,000 of gain should the surviving spouse sell the property. However, if Jake and Jenny had re-titled their deed to community property, executed (signed) a community property agreement or transferred the property to a community property Trust there would be a different result. If title was held as community property, 100% of the property could be stepped-up to f.m.v. negating all of the capital gain. The surviving spouse could then sell the property and take the entire proceeds without tax.

Tips:

  1. Check title on your deed to make sure it indicates community property if you are married;
  2. Sign a community property agreement;
  3. Update your Living Trust and list your property on your Trust schedule as a community property asset and include a Heggstad provision in your Trust as a safety net to avoid probate should you re-finance any real property.

Gifting v. Inheritance

At all costs, you should avoid gifting your appreciated home to your children or other beneficiaries during your lifetime. The reason being is that such beneficiaries will receive your carry-over basis (usually your cost basis) and they will be stuck with the capital gain. Thus, if Jake and Jenny had two children, Joey and Janet, they should leave the home to either or both at the death of the surviving parent. This is because Joey and Janet will receive a 100% step-up in basis and upon the sale of the home the children will receive the proceeds without tax.

Tip: Do not gift your appreciated residence during your lifetime if possible, but have your children inherit it to negate the capital gain. This is easily accomplished with a well written Trust and avoids probate on the residence.

Tip: If a particular child or grandchild is to receive a piece of real property as an inheritance, make a specific bequest of such property to such child to insure they obtain the parent-child exclusion from property tax reassessment. If the real property is distributed to all children in shares, the other children would then need to assign their interest to the child receiving the real property which will cause a property tax reassessment.

Contact

Stephens Law Group
12526 High Bluff Dr.
Suite 200
San Diego, CA 92130
Phone: 858-792-0909
Fax: 858-792-0806
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