Inheriting a house from a loved one can be a wonderful gift or a challenging inconvenience. Depending on your individual circumstances you basically have three choices on what you can do with the home: move into it, rent it out, or sell it.
If you inherit property, it’s not as simple as getting the keys and the title to the house. There are multiple factors to consider whether you end up selling or not. If you’re planning on selling an inherited home, first work to answer the following questions so you have the information you need to help you avoid the usual pitfalls and avoidable obstacles that waste time, cost money, and add to your frustration.
- What is the home worth? Online tools like home value estimators are a great way to get an initial understanding of the inherited home’s worth compared to similar properties in the area. However, the amount you see doesn’t necessarily mean you will be able to sell the house for that amount, a lot depends on the condition of the house itself as well as the overall market conditions for that area.
- Is there an outstanding mortgage or other debts/taxes on the property? You’ll want to also find out how much is left to pay against the mortgage or loan on the house and contact an experienced estate planning attorney or realtor find out what selling the inherited house will net your family.
- Are there other outstanding debts/taxes? Besides what’s left on the mortgage, are there any other outstanding bills you need to account for? Were property taxes paid every year or did they slowly pile up and now you have to use the proceeds from selling the home to pay them off?
- How many are inheriting property? A lot will depend upon how many individuals might inherit a portion of any given property. Do all involved agree that selling the inherited property is the right choice, and who’s going to manage the process of the estate sale and selling the house itself?
Capital Gains and Other Tax Implications of Selling an Inherited Home
One of the first things you’ll need to evaluate when considering selling an inherited home is how the sale will impact you financially. In other words, you may be subject to taxes on any proceeds from the sale or from the inheritance of the property itself. While laws may differ from state to state, the below information will help you understand the tax implications of selling an inherited property.
- Inherited properties do not qualify for the home sale tax exclusion. Typically, when you sell a property you’ve lived in for at least two of the previous five years, you can take advantage of a tax exclusion. That means up to $250,000 of proceeds for a single homeowner is tax-free, and married couples can avoid paying taxes on up to $500,000 in proceeds. Unless you plan to live in the home you’ve inherited for at least two years, you won’t be eligible for this exclusion.
- Inherited properties can take advantage of the stepped-up tax basis. Ordinarily, proceeds are calculated using the purchase price plus any improvements made to the property during ownership. In the case of inherited property, the tax basis is the fair market value of the property at the time of the previous owner’s death. This prevents those who inherit property from owing substantial taxes on properties that have appreciated dramatically in value over the past several decades. In a nutshell, you won’t pay capital gains tax to the point of the previous owner’s death. If you ended up holding onto the property for a while before you sold it, you would then be liable for taxes on any increase in the value of the property while you owned it.
- Know where and how to report sale proceeds. The IRS requires those who sell an inherited property to report proceeds as taxable income. The specific amount that will be taxable is based upon the fair market value and other improvements used to calculate the basis. This publication from the IRS describes where to find instructions and which forms to use. Even if you don’t have to pay taxes on the sale, it is still a reportable event. It’s still a good idea to report the sale of an inherited home even if no taxes will be owed.
It is also important to note that there is a difference between inheritance tax and estate tax, and even some differences among individual states. Tax law is by no means simple, so it’s best to seek the advice of an accountant or attorney to figure out the many nuances related to the financial obligations that come with inheriting real estate.
Selling a home you’ve inherited from a loved one who has passed carries much responsibility. It’s already an emotional process and adding the typical stress that comes with selling any property can easily be enough to send even the calmest, coolest, and most collected person over the edge. Arming yourself with the most accurate information will prepare you for any obstacles that may cross your path, making the sales process smoother and more bearable.
Deciding Not to Sell? Learn How to Properly Gift Your Home as an Inheritance
If you would rather gift your inherited property to your children or a loved one, you should be aware of the tax implications of gifting.
Whether you ultimately decide to sell or gift your inherited home, it’s best to consult an experienced estate planning attorney to ensure you avoid any potential tax consequences and unexpected complications. The trusted estate planning attorneys at Morneau Law are ready to help you navigate this complex landscape. Contact us today to schedule a consultation.