My Brother Gifted me a House – How to Report Capital Gains

March 10, 2023 by Carolyn Richardson, EA, MBA
House with a Sold For Sale Sign in Front of it

My brother's wife died and he was left with the house. He gifted (no exchange of money) me the house and I sold it in the same year. How do I report capital gains?

-Dorothy, NC



Hello Dorothy,

Thank you for your question regarding how to report the capital gain on a house that was gifted to you by your brother. Your brother gave you the house after his wife passed away and he was the sole owner of the house after that. This kind of situation can really be tricky, because so much of the answer depends on information you may need to get from your brother.

Let’s start with the basics: To determine the capital gains for your income tax return, you will need to know two major amounts, the selling price of the property and the cost of the property. The taxable gain will be the difference between these two numbers, adjusted by certain selling expenses. If you purchased the house yourself, you would likely know those numbers, but since you were given the house, you may not know the “cost” in regard to the property you received.

Generally, when you are given anything, whether it is real estate or a ceramic knick-knack, your “cost” in the object is the same as what the person who gave it to you (the donor) paid for the item or property. For example, if your brother had given you a diamond ring that he had just purchased for $3,000, and you decide to sell it and receive $3,200 for it, your capital gain would be $200, which is the difference between what you sold the ring for ($3,200) and what your brother paid for it ($3,000). If you didn’t know what your brother had paid for the ring, however, for tax purposes, you would have to assume that he paid nothing for the ring and your capital gain, in that case, would be $3,200, the amount received, as the “cost” to you is zero.

That being said, when people inherit property of any kind, the “cost” of the property is not what the person who passed away (known as the decedent) paid for it. Instead, inherited property generally receives a “step up” in the cost basis to the fair market value on the date of death. Since real property usually appreciates in value over time, the value as of the date a person passes is usually higher, hence the “step up” in basis. Taking our diamond ring example, assume your bother had paid $1,000 for the diamond ring many years ago and given it to his wife, and she passes away when the ring was now worth $3,000. He now gives you the diamond ring, and you decide to sell it for $3,000. You would have no gain or loss because the sales price is now equal to the basis, which was $3,000 when your sister-in-law passed away.

Likewise, real estate, like a house, also receives a step up in the basis for purposes of computing any gain or loss on the sale of the property. How your brother and his wife held the property, though, can impact how much of a step up he received on her date of death. Most property owned by married couples is held as a joint tenancy, sometimes referred to as tenants by the entirety. When property is owned in a joint tenancy, a husband and wife are presumed to each own an equal share, or half each. Upon the death of the first spouse, the other spouse automatically owns the entire property. The decedent’s half of the property will receive a basis adjustment equal to one half of the value of the property as of the date they died. So, if your brother and his wife paid $100,000 for the home, and it’s now worth $250,000 when your sister-in-law passed away, your brother’s new basis in the home is $175,000 calculated as follows: 1/2 step up in basis as of the date of passing ($250,000 x 50% = $125,000) + your brother’s ½ of the original basis of the home (50% of $100,000 = $50,000), for a total new adjusted basis of $175,000. When he gives you the property a few months later, you would use the $175,000 value as the cost basis to compute your gain or loss. If this is done within a short time frame, it’s likely what you sold the property for would be very close to the fair market value on the date of death, but if more than a year has passed, or you live in a very active and competitive real estate market where prices are rising rapidly, it might be a good idea to check with a real estate appraiser on the market values on the date of death.

In rarer cases, a couple might own property as tenants in common. It is not unusual for married couples who purchase property together to do so 50/50, with each contributing half of the cost, and therefore each owning 50% of the home. But there are times when couples may own unequal shares (such as 30% by your sister-in-law and 70% by your brother). One of the differences between joint tenancy and tenancy in common is that when property is owned as tenants in common, the property does not automatically transfer to the surviving co-owner. When your sister-in-law passed away, your brother inherited your sister-in-law’s share of the property and, as such, the step up in basis would only be based on that percentage.

For example, if they purchased the home for $100,000 and she owned 30% of the property, only 30% of the fair market value on her date of death would receive a step-up in basis. Your brother’s share would not receive an increase in value, but it would still be worth the ownership percentage of what he originally paid for the property, plus any improvements. Using our previous example, that means that the property’s cost basis when he gave it to you would be 70% of the original cost ($100,000 x 70% = $70,000), plus 30% of the fair market value on the date of death of your sister-in-law ($250,000 x 30% = $75,000), for a total cost basis of $145,000. If you sold it for $250,000, then your gain would be $105,000, less any expenses from the sale.

You will probably want to ask your brother how the property was titled on the date your sister-in-law passed away and how the property was purchased or acquired (including the cost) when he and his wife first received it. You can also find some of this information through the county property tax records or a title search.

These are simplified examples of how you may need to determine your gain or loss from the sale of the property, and there are other things that might complicate it even more, such as if the property was held in a trust. If that’s the case, we would recommend you speak with a tax or estate attorney or tax return preparer who can review the title situation with you to determine the gain or loss.

And finally, since your brother gifted this property to you, he may need to file a gift tax return. Taxpayers can gift up to $17,000 in 2023 ($16,000 in 2022 and $15,000 in 2021) to another person, and the gift of a house would likely exceed this limitation. It would not impact your own return, however, but you might want to remind him of this legal obligation.

Sincerely,
Carolyn Richardson, EA, MBA

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Carolyn Richardson, EA, MBA
Learning Content Managing Editor

 

Carolyn has been in the tax field since 1984, when she went to work at the IRS as a Revenue Agent. Carolyn taught many classes at the IRS on both tax law changes and new hire training. In 1990, she left the IRS for a position at CCH, where she was a developer on both the service bureau software and on the Prosystevm fx tax preparation software for nearly 17 years. After leaving CCH she worked at several Los Angeles-based CPA firms before starting at TaxAudit as an Audit Representative in 2009. Carolyn became the manager of the Education and Research Department in 2011, developing course materials for the company and overseeing the research requests. Currently, she is the Learning Content Managing Editor. 


 

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