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IRS worker touts perk, but CPA disagrees

Benny Kass
Inman News

DEAR BENNY: My husband and I built a townhouse in 1983 for $33,000. We lived there for a few years and then rented it out for 17 years, taking all the tax advantages such as depreciation, etc.

In 2003 we sold it for $90,000, and did a like-kind exchange with a house that my husband built. That house has been rented for the past six years and now has a market value of $190,000. We have no liens on the home and would like to sell it and put the money towards our dream home.

If we moved into the home and lived there for two years, would we have to pay capital gains taxes when we sell the home?

We've asked our certified public accountant (CPA) and she said we would have to pay capital gains because we took depreciation on the properties. We also asked a friend who worked for the Internal Revenue Service and he said as long as we lived in the home for at least two out of the last five years before we sold the home, we would not have to pay capital gains tax. Who is correct? --Jeanne

DEAR JEANNE: I believe your CPA is correct. Any depreciation that you took after May 6, 1997, will be taxed. And based on a new 2008 tax law, the gain must be allocated between the rental and the personal use starting after Dec. 31, 2008. The portion of the gain allocated to the rental period will be taxed.

I would always follow the advice of your paid accountant, rather than that of a friend, even if he or she works for the IRS.

DEAR BENNY: I live in New York and my 80-year-old mother lives in Florida. We are both on the deed to my home, which was purchased in 1994. She wants to give me the house outright, and wants her name off of the deed. What is the easiest way and how should we go about it? --Tom

DEAR TOM: The process of transferring title from your mother to you is easy; however, the tax complications may not be so easy.

You, and preferably an attorney, can make sure who owns the property by conducting a title search. If it is clear that you and your mother own the house, the lawyer can simply prepare a deed conveying the property from her to you. There may be some technicalities in New York that I don't know about. And, generally, because this is a transfer between mother and son, again -- depending on New York law -- you may not have to pay any recordation or transfer tax but only a nominal fee to record the deed.

But discuss the situation first with your lawyer and/or a tax advisor. My answer below may not apply in community property states out west, such as California or Oregon.

Let's say you and your mother bought the house back in 1994 for $100,000. Her basis for tax purposes is $50,000 and yours is the same. Let's ignore for this example any improvements you have made over the years.

Now, let's further assume the house is worth $500,000. When your mother gives you her half of the house, you pick up her basis for tax purposes. This means that your basis will now be $100,000. If you ultimately sell it say for $600,000, you will have made a profit of $500,000 (for this discussion I am ignoring commissions and other closing costs).

If you are married and have lived in the property for two out of the five years before it is sold, you can exclude for tax purposes all of that profit (i.e., the $500,000). But if you are not married -- or have not met the two-out-of-five-year occupancy test, you may have to pay a lot of capital gains tax.

Talk with your professional advisors before you go down this path. It may be better for your mother to sell you her half, and you can pay her a monthly or yearly amount for the sales price.

DEAR BENNY: My husband and I just signed documents to refinance our home. The entire process was long and frustrating. The appraisal was done a month ago, but the lender never notified us that the appraisal value was lower than what we needed to refinance. We found this out almost one month afterwards and only after we called to ask how things were going. The communication with the lender was extremely poor, but that wasn't the biggest problem.

The lower appraisal value meant we had to pay down the loan by $20,000 in order to refinance. Our house has three bedrooms, and four of the six sales comps were two-bedroom houses. Adjustments were made only for the overall square footage, not for the number of bedrooms.

We felt the amount was inaccurate for our area and asked the lender to have the appraisal reviewed. I gave the lender additional comps and the same appraiser replied with a second report with no change in value. There were numerical discrepancies between both reports. One comp ended up with a higher value, as the first report omitted to make any adjustments. I contacted both the lender and appraiser by e-mail and did not receive a response to these errors.