If your spouse dies, you may have to decide whether or when to sell your home. Knowing the rules for capital gains tax on family home sales is important because your home has likely increased in value, especially here in the State of Hawaii.
According to CPA and Tax Attorney Joy Taylor’s article, Capital Gains Tax on Real Estate and Home Sales, the current rules are:
- When a property owner dies in a non-community property state such as the State of Hawaii, half of the home will get a step-up to the fair market value tax basis upon the death of the first-to-die spouse.
- A spouse who sells the family home within two years after the death of the other spouse gets the full $500,000 capital gain exclusion, provided the two-out-of-five-year use and ownership test were met before death.
Two Recent Scenarios
I recently assisted two clients who lost their spouses under different circumstances and timing. The following are their stories from my perspective.
Mary’s Story
I met Mary and Mike at an Open House at my Poipu Kauai listing. They discovered Kauai while on a cruise and had returned for a month-long stay to purchase a home. I assisted Mary and Mike with negotiations on the purchase, and once an escrow account was opened, they returned to the mainland to begin packing for their move to Kauai.
Their Poipu home was Mary and Mike’s primary residence for 3 years. During those years they made approximately $300,000 improvements, increasing their home’s cost basis from the $2,100,000 purchase price to approximately $2,400,000. Unexpectedly, Mike died after a brief illness during Year 4.
Step-Up Applied
For my scenario, let’s say the fair market value of their Poipu home as of Mike’s date of death was approximately $2,800,000. Mary’s half of the $2,400,000 before-death cost basis, $1,200,000, would be added to Mike’s half of $2,800,000 date-of-death fair market value tax basis, $1,400,000. Utilizing these figures, the new cost basis for Mary’s home increased from approximately $2,400,000 to approximately $2,600,000. Are you with me, so far?
$500,000 Home Owner’s Exclusion Applied
The Mortgage Forgiveness Debt Relief Act of 2007 allowed for a 2-year extension of the $500,000 home owner’s exclusion in the case of the death of a spouse. Therefore in my scenario, Mary would be able to sell her home for up to $3,100,000 after closing costs ($2,600,000 + $500,000) without triggering any capital gains tax if she sold her home within 2 years of the date of Mike’s death.
We listed the Poipu home on the Kauai MLS within a year of Mike’s passing. On the first weekend of scheduled Open House sessions a couple from the mainland dropped in to view the home. They returned with family members the next day for a second look, and decided to make an offer. The buyers and seller enjoyed a smooth transaction. Sale price: $3.185 million.
Mary continues to live on Kauai in a smaller home with acreage in Kalaheo, a 20-minute drive to the beaches and resorts of Poipu.
Pacific Ocean and South Shore Kauai views from June’s Kahaleo acreage
June’s Story
June asked me to meet with her to discuss listing her Kalaheo home with acreage. June’s husband Dick had passed away after a long illness two years prior. June had decided to sell her Kalaheo home and move to California to live near her sisters. Deferred maintenance items were repaired, her home’s exterior was painted, and she was ready to list her home.
June knew I had previously listed her neighbor’s home with acreage, and assisted Mary with its purchase. At our meeting June learned my husband had died unexpectedly years earlier. By the ending of our meeting we concluded we were a good fit to work together to sell her home, and to get her to California.
Dick and June had purchased their Kalaheo 2-ac parcel for $900,000 in 2006 and built their dream home to showcase the panoramic Pacific Ocean and Kauai’s south shore coastline views. For my scenario, let’s say the cost basis of their Kalaheo property before Dick’s death was approximately $1,300,000.
Step-Up Applied
Let’s say the date-of-death fair market value of Dick and June’s home was determined to be approximately $1,900,000. Utilizing these approximate figures, the cost basis for June’s home was her half of $1,300,000 cost basis, $650,000, added to Dick’s half of $1,900,000 date-of-death fair market value tax basis, $950,000: $1,600,000.
The $50,000 post-death repairs and painting then increased the property’s cost basis to approximately $1,650,000. Are you still with me?
$250,000 Home Owner’s Exclusion Applied
Because two years had passed since the death of her husband, June had lost the benefit of Dick’s $250,000 home owner’s exclusion. June was entitled to a $250,000 home owner’s exclusion only. Therefore under my scenario, the cost basis for June’s home at the time of sale would have been approximately $1,900,000.
The value of June’s home increased 25% over the two years since Dick’s death. Land survey and utility easement issues needed to be resolved before the transaction’s closing, and June’s home eventually sold for $2,365,000.
Current Long-Term Capital Gains Tax Rate
According to CPA Joy Taylor’s article, the federal long-term capital gains rate is currently either 0%, 15%, or 20%, depending on the taxpayer’s income and other circumstances. The Hawaii State long-term capital gains tax rate is currently a flat 7.25%.
As always, contact your tax professional for advice on all tax matters.
Recent transactions include two vacant lots along Poipu’s oceanfront Lawai Road
Celebrating Ten Years with Hawaii Life on Kauai
I recently celebrated 10 years as a Kauai real estate agent and 10 years working with the Hawaii Life team. My real estate work has brought me into the lives of many interesting people. Few transactions were as personally gratifying as working with Mary and June at a defining moment in their lives.
If you are looking for assistance with buying or selling Kauai real estate, contact me. I enjoy connecting buyers and sellers and a smooth transaction is always the goal.
Current listings include Aepo Nei Neighborhood Homesite 13, Kukui’ula Kauai. MLS 669283
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