False Rumors About A "Sales" Tax On Your Home Sale
Here's some sage advice for surfers of the internet, in case you've never heard it before; don't believe everything you read!
One of the most frequent questions I have been asked in the last few months is about the so-called "sales tax" on the sale of personal homes. Many who have posed the question have been pretty hot under the collar about it too!
I can only attribute this to the pandemic of chain emails and internet hoaxes going around that have claimed that, come 2013, all transactions involving real estate, including homes, will be subject to a 3.8% federal sales tax.
There is just one problem; that's false!
The rumors about such a far-reaching sales tax on real estate transactions began hitting cyberspace not long after the passage by Congress of the health care reform legislation that has commonly become known as Obamacare, more precisely known as the Patient Protection and Affordable Care Act, and the Health Care and Education Reconciliation Act of 2010.
Under the sweeping new laws, there is indeed a new 3.8% Medicare tax on unearned income that takes effect in 2013, and that tax is at the crux of the rumors. Undoubtedly this is so because for a very small segment of taxpayers, the Medicare tax could indeed apply to a portion (but only a portion) of the gain on the sale of their principal residence.
Notice the emphasis on the words "portion" and "gain"!
They are important, because under no circumstances would the tax be paid on the entire sales proceeds, i.e. as a "sales" tax would be, and such tax would only apply under limited circumstances to just a part of any gain they might have on a sale.
To show you what I mean, let me explain a bit about how the tax is going to work.
The new tax will only apply to single taxpayers with a modified adjusted gross income (MAGI) in excess of $200,000 and married taxpayers with a MAGI in excess of $250,000 if filing a joint return, or $125,000 if filing a separate return.
The tax is equal to 3.8% of the lesser of the taxpayers' "net investment income" OR the amount by which their MAGI exceeds the threshold amount referred to above. Under the law, net gain on the disposition of property (other than property held in an active trade or business) is included in the definition of investment income and thus subject to the tax.
However, the tax code excludes from taxable income up to $250,000 ($500,000 for joint returns) of the gain on the sale or exchange of a principal residence, provided certain ownership and use requirements are met. Thus, any gain so excluded will not be subject to this or any other tax.
Notice the exclusion is for gain recognized on the sale, i.e., sale proceeds minus cost basis. It is not an exclusion based on any amount of sale proceeds.
Because any gain on the sale of the home above the limits mentioned earlier is taxable under the code, such gain on the sale of a personal residence in excess of those amounts will be potentially hit with the new Medicare tax.
If you do the math, you will see that you would have to sell your home for quite a bit of money AND realize a hefty gain on the sale before the new Medicare tax would hit you. This will apply to very few people. But that's how rumors get started!
This seems an appropriate time to mention just what is included in the definition of "net investment income" that is subject the new tax. Generally speaking, such income includes interest, dividends, capital gains on the sale of investment property, rent and royalty income, annuities, and income from a trade or business which is considered a passive activity with respect to the taxpayer.
So, if you are planning to sell your home in 2013, never fear, there's no sales tax here! Ok, that's cheesy, but you get the point.
And while it's unlikely, with just a little calculating you should be able to quickly determine if the new Medicare tax on net investment income will apply to any part of your sale.
