TAKING ADVANTAGE OF (SECRET) EXPENSES WHEN YOU SELL YOUR CONDO
By Aaron Swimmer
December 5, 2016
Nobody wants to pay more than their legal fair share of income taxes. Some don’t even want to pay that; but that’s for another article. To that avail, many condo owners are not aware of a tax benefit that can help them reduce their tax burden upon a sale.
As an owner/member of your condo association, you own a percentage interest of that association. You can find your specific percentage interest inside of your association’s legal document known as the “Declaration.” In a cooperative, your percentage interest should be designated on your share certificate or proprietary lease.
Since you purchased your property, your association has probably spent a considerable amount of money improving the common property. Such items as adding a children’s playground, new roof(s), installing a swimming pool and remodeling the lobby would be classified as improvements. The records of these improvements, as to the total expenditure, is kept and reported on a yearly basis. It is important to know that maintenance and repair items are not capital improvements. Generally, items which have a useful life of one year or more are items which are considered capital improvements.
The IRS has stated that owners within an association can increase their tax cost basis by their proportionate share of the amount spent by the association to make these capital improvements. Since I know this may sound like astrophysics to many homeowners I have provided an example below.
Let’s say you purchased your condo years ago for $1,000,000. Over time, you have spent $150,000 on improvements and have the bills to prove it. This increases your basis for tax purposes to $1,150,000. Years later you sell the property for $2,000,000. Your profit is $850,000. Currently, under U.S. tax code, a married couple will not have to pay any capital gain tax on the first $500,000 of profit (or in tax lingo “gain”). The difference (850,000 – $500,000 = $350,000) would most likely be taxed at the current capital gain tax rate of 20%; which means in our scenario you may have to pay up to $70,000 to the IRS.
Now let’s change this example to include our secret IRS rule as described above. Let’s say that your association has spent $2,000,000 on capital improvements from the date you purchased the unit and that your percentage interest is 1% (remember, we can look this up in the association’s Declaration document). Doing the math (1% x $2,000,000) we find your individual capital improvement contribution is $20,000 for common items and this amount should be added to your tax cost or “basis”. So after this amount is added, your new adjusted tax basis would be $1,170,000 instead of $1,150,000. Recalculating, ($2,000,000 – $1,170,000 = $830,000 – $500,000 = $330,000 x 20% = $66,000 tax due) which gives us a $4000 tax savings. And better in your pocket than Washington’s.
Adjusted basis is a topic on which most of us pay little attention; it can be a complicated and mysterious concept to some. All the same, as we get closer to our golden years and concerned with safeguarding our assets, the concept of adjusted basis becomes of greater importance. Every dollar you don’t get taxed is a dollar in your pocket, or maybe your heirs’ pockets!
At Swimmer Law Associates, we know a lot about condos, homeowner associations and related topics. Give us a call and we can let you in on some secrets.