Surtax in health-care law will hit home sales

Hasan Merchant

When the Supreme Court upheld the health-care reform law on federal tax grounds, it restocked a housing issue that had been relatively quiet for the past year: The alleged 3.8 percent “real estate tax” on home sales beginning in 2013 that is buried in the legislation.
A 3.8 percent surtax takes effect Jan. 1 on certain investment income of upper-income individuals – including some of their real estate transactions.
But it’s not a transfer tax and not likely to affect the vast majority of homeowners who sell their primary residences next year.
Single-filing taxpayers with adjusted gross incomes of less than $200,000 or couples filing jointly with incomes of less than $250,000 probably won’t be touched by the surtax, although they could be affected by other changes in the code if Congress fails to extend the Bush tax cuts scheduled to expire at the end of this year.
Those with incomes greater than these thresholds might not be hit with the 3.8 percent tax unless they have certain types of investment income targeted by the law, specifically dividends, interest, net capital gains, and net rental income.
Where things can get a little complicated, however, is when a home is sold for a substantial profit and adjusted gross income for the year exceeds the $200,000 or $250,000 thresholds.
The good news: The surtax does not interfere with the current tax-free exclusion on the first $500,000 (joint filers) or $250,000 (single filers) of gain on the sale of a principal home. But any profits above those limits are subject to federal capital gains taxation and could also be subject to the new 3.8 percent surtax.
It will be more important than ever to pull together documentation on the capital improvements to the property and expenses connected with the house — including settlement or closing costs, such as title insurance and legal fees – that increase your tax “basis” to lower the capital gains.
Because the health-care law targets capital gains, sellers could find themselves exposed to the 3.8 percent levy next year.
Here’s an example provided by the tax staff at the National Association of Realtors. Say a couple have an adjustable gross income of $325,000 and they sell their home at a $525,000 profit. Assuming they qualify, $500,000 of that gain is wiped off the slate for tax purposes. The $25,000 additional gain qualifies as net investment income under the health-care law, giving the couple a revised adjusted gross income of $350,000.
Because the law imposes the 3.8 percent surtax on the lesser of either the amount the revised adjusted gross income exceeds the $250,000 threshold for joint filers ($100,000 in this case) or the amount of taxable gain ($25,000), the couple end up owing a surtax of $950 ($25,000 times 0.038).

Hasan Merchant

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