1. Determine the cost basis of your home. Generally this is the price you paid for the home plus the cost of improvements, minus the real estate commission and other selling costs. For example If you originally paid $320,000 for your home, and then remodeled your kitchen for $20,000, you would add the two figures to bring your “basis” to $340,000. The $20,000 could be viewed as an “improvement”, which could increase the value of the home, in of itself. If you were to sell the house for $500,000 today, your gain would be $500,000 minus average selling costs -- let’s estimate 6 percent, -- or $30,0000.
Then you subtract the "full cost basis” of $340,000. Your gain would then be approximately $130,000. And no capital gains tax should be due. Be advised that dollars spent for improvements can usually increase your basis and therefore could reduce future taxes. However, routine maintenance is generally not included in your basis calculations. For example, replacing an entire plumbing system in an old home could likely increase its value and therefore be an “improvement.” But fixing broken pipes would not.
2. Calculate the capital gains taxes due, if any. Again, always consult with your accountant regarding exact tax implications in each situation. Now, with the newer tax regulation outlined in the Tax Relief Act of 1997 (TRA ’97), there are a changes that may impact divorcing homeowners in new ways. Prior to TRA ’97, homeowners may recall that they were taxed on most gains from their homes unless they reinvested those gains in another property of equal or greater value than the property they’d just sold. This was referred to as a “rollover” of past gains.
It may be surprising to know that some divorcing couples today may not know that the rollover is a thing of the past. Pursuant to their divorce, some have actually made the mistake of purchasing a new home that was more expensive than they wanted. Why? They mistakenly thought they were avoiding taxes, remembering outdated rules that no longer applied to their situation.
That said, since TRA ’97 the new rules allow for married couples filing jointly to use exclude gains on their home up to $500,000. And single individuals have one half that available – or $250,000. And these are not one-time exclusions: they can be used every on sales of homes every two years. Always consult with your financial planner, attorney and accountant for up to date advice on areas that benefit you and your family during divorce.
Cynthia Anderson Thompson, Certified Divorce Financial Analyst (CDFA ™), MBA (Harvard), is founder of Divorce Planning Solutions LLC, a fee-only financial planning firm in New York. She can be reached at cindy@divorceplanningsolutions.com or 914-906-2919.
