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Richard
Richard, Tax Attorney
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I am purchasing a house from my parents. They paid 19,500

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I am purchasing a house from my parents. They paid 19,500 for it 30 years ago. What would be the difference in taxes due to capital gain? If we made a purchase agreement and instead of making it for 65,000 they gave me a gift of equity bringing the total to 81,500?
Thank you
Welcome! My goal is to do my very best to understand your situation and to provide a full and complete answer for you.


Good morning. Is this your parents principal residence...i.e., has it been there personal residence for at least 2 years out of the preceding 5 years? Also, what is the fair market value of the house? And, can you tell me what the $65,000 and $81,500 amounts are based upon? Thanks.
Customer: replied 3 years ago.

No my parents have never lived in the house. Fair market value 85,000 is what we pay taxes on. $65,000.00 is the amount I am going to pay my parents for the house. The $81,500.00 would be the $65,000.00 plus a gift of equity of $16,500.00 for the down payment.


 


Thanks

Thanks so much for your response.

Whether or not you structure this under Option A or Option B below, there will be no gift tax. Recipients of gifts are not subject to gift tax. And, there should also be no gift tax due from the donor. Each donor can give $14,000 per year per person under the annual gift exclusion. In addition to that, for any amounts in excess of the $14,000 in a year, each person has a $5,250,000 lifetime exemption....which means a person can give a cumulative amount of up to $5,250,000 in gifts over and above the $14,000 annual gift exclusion amount without incurring gift tax....the donor must file a gift tax return to let the IRS know how much of the lifetime exemption is being used, but there will be no gift tax until cumulative additional gifts have exceeded the $5,250,000.


But, the capital gains tax for your parents will vary depending upon whether or not you choose Option A or Option B.

Option A: Your parents give you the $16,500 and then you buy the property for $81,500. In this case, your parents would pay capital gain tax on the difference between $81,500 and their basis of $19,500..i.e., they would have long term capital gain of $62,000.

Option B: You structure this as part gift/part sale where you agree to buy it for $65,000. Your parents would be deemed to have made a gift of the $16,500 in value of the property and they would pay capital gain tax on the difference between $65,000 and their remaining basis of approximately $15,000 (it's reduced by the approximately 20% of their basis that carried over to you for the portion gifted)(I'm rounding for the purposes of illustration). ...i.e., they would have long term capital gain of approximately $50,000.


For 2013, the tax laws concerning taxation of long term capital gains are as follows:

0% applies to long-term gains and dividend income if a person is in the 10% and 15% tax brackets,
15% applies to long-term gains and dividend income if a person is in the 25%, 28%, 33%, or 35% tax brackets, and
20% applies to long-term gains and dividend income if a person is in the 39.6% tax bracket.


In addition, starting in 2013, capital gain income will be subject to an additional 3.8% Medicare tax for taxpayers with income at or above a certain threshold. This 3.8% Medicare surtax applies to taxpayers with “net investment income” in excess of threshold income amounts of $200,000 for single filers and $250,000 for married couples filing jointly



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Customer: replied 3 years ago.

Hi ,


 


I am new at this and the answer is fairly technical. Basically what I am trying to do is create an atmosphere where my parents have less taxes to pay and I could use the help with not paying a down payment. Could you advise me on the best route? My father is retired but my Mother still works. they are just having a tough time and if they can get more from this house legally of course. It would help pay for their house. I would appreciate any guidance you could offer. Thank you

Thanks for following up on this. Your best bet here is to buy the house for the $65,000. That will create the lowest capital gain for them. The difference between the fair market value of the house and the $65,000 will be considered a gift, but will not be taxable to either you or them. :)
Customer: replied 3 years ago.

I don't understand. I thought they would get a break on the gifted part. I was going to pay the difference in taxes over the $65,000.00.

They do get a break. If they sell the property for $65,000, no one owes any gift taxes or capital gains taxes on the value in excess of the $65,000. So, not only do you not owe any taxes on the value over $65,000, neither do they. They would not be entitled to any deduction for a gift because a gift, though not taxable, is not a deduction for purposes of capital gain tax or income tax.
Customer: replied 3 years ago.

So if they sell the house for $65,000.00 even though they paid $19,500.00 for it. There will be no capital gains tax? Because H&R Block had told my Mom there would be.

They will have capital gains tax on the gain...i.e., the $65,000 less the $19,500. BUT, they will not pay capital gains tax on the fair market value amount in excess of the $65,000.
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