We sold my wife’s parents house, do we have to pay taxes on it, if we put it in a money market account in our name?
-James, Alabama
Dear James,
Congratulations on the sale of your wife's parents' home! Often, when significant assets like a home are sold, tax questions are sure to follow. No one wants an unexpected bill from the taxman! Generally, where the funds from the sale of an asset are deposited to do not have a bearing on how the sale of an asset is taxed, no matter if the proceeds are placed in a money market, savings or checking account, used to purchase another property, or gifted to a friend or family member. This does not mean that there may not be an additional tax impact depending on where the funds are deposited. For example, if the proceeds from the sale of the property were deposited into an interest-bearing account, the interest income received would be taxable. Additionally, if the money were used to purchase stock that was later sold for a gain, the gain would be taxable income. However, this is a conversation for another day.
So, how are the tax implications determined when a house is sold? In most cases, whether the sale of a home is taxable will depend on who owned the home when it was sold, how the seller obtained the home (was it through purchase, gift, inheritance, etc.?), how the home was used (was it the owner's primary residence, vacation home, rental, or all three?), and the length of time the home was owned by the seller. You did not mention that the home was a rental property. Therefore, I am going to assume that it was not rented out and will not be discussing the tax implications of the sale of rental property. In your question, you wrote that the property sold was your wife's parents' home. Because we do not have any other details, let us go through a few scenarios. Hopefully, one of these examples will be similar to your tax situation.
You and your wife inherited the home and then sold it.
If you and your wife inherited the home after your wife's parents passed away, then your basis in the home is the fair market value of the home as of the date the last parent passed, if both parents owned the home. This is referred to as a “step-up” in the basis of the home. If the home was not appraised when the last parent passed, you would need to get an appraisal of the home as of the date of passing. When an inherited property is sold, any gain is considered long-term, no matter if the person who inherits the property keeps the property for a day or fifty years. What if you and your wife lived in the home after you inherited it and used it as your primary residence and later sold the home? If you or your wife owned the home and both of you lived there for at least two years before the inherited home was sold, you may be able to exclude up to $500,000 of gain. You would still be able to use the stepped-up basis to determine if your gain exceeded the allowable exclusion.
You inherited the proceeds from the sale of the home.
If you inherited the proceeds from the sale of the home, then the money you actually received is not taxable. However, this does not mean you may not have a tax liability. If your wife's parents had a trust or their estate went through probate and you and your spouse were listed as beneficiaries, the gain or loss on the sale of the home will be reported to you through a
Schedule K-1, Instructions for Schedule K-1 (Form 1041) for a Beneficiary Filing Form 1040 or 1040-SR. Often, when a home is sold within a few months after the owner passes, the basis (the home's fair market value as of the owner's date of death) and the purchase price are the same or very close to each other. When the selling expenses are taken into consideration, there is often a long-term loss that is passed to the beneficiary. Here is an example:
Henrietta was age ninety when she passed away. Her only assets were her home, bank account, and a modest investment account. Henrietta's only living relative was her daughter, Ana, who was also the sole beneficiary of her trust. The trust administrator sold the home and distributed the net proceeds from the sale to her daughter in the same year. The home's fair market value when Henrietta passed away was $500,000. The home was sold six months later for $510,000. When the $15,000 of selling expenses were taken into account, there was a net loss on the sale of the home totaling $5,000. Although Ana received $495,000 in cash, she received a Schedule K-1 showing a long-term capital loss of $5,000 that she will be able to claim on her individual income tax return.
One or both of your wife's parents are still alive, and the home was in their names or revocable trust.
First, if one or both of your wife's parents are still alive and the home is titled in their names or revocable living trust, any gain from the sale will be taxable on their personal income tax return. Sometimes parents get to a place where they can no longer safely stay in their home and need a higher level of care. When this happens, the parents' adult child(ren) will often sell the home on their behalf and use the proceeds to pay for nursing care. Your wife's parents may be able to take advantage of the federal home sale exclusion if they meet all the following eligibility qualifications.
- At least one of them owned the home for a minimum of two years out of the last five years leading up to the date of the sale of the home.
- Before selling the home, they lived in it as their primary residence for at least two of the last five years.
- They did not claim the home sale exclusion on another home during the two years leading up to the sale of the home.
If all the above qualifications are met, your wife's parents may exclude up to $500,000 of gain from the sale on their income tax return. If one of her parents had already passed, the surviving parent might still be able to claim up to $500,000 of gain if their spouse passed away within two years of selling the home and they had not remarried. Single taxpayers who meet all the above qualifications may exclude up to $250,000 of gain on the sale of the primary personal residence. Of course, there are many exceptions to the home sale exclusion rules, including exceptions that allow taxpayers to claim a partial exclusion. If this is your in-laws’ situation, we recommend speaking with a qualified tax professional about their specific circumstances.
Your wife's parents gifted you the proceeds from the sale of their home.
As we age, many of us crave a simpler lifestyle, and the home that was perfect for raising a family now seems more of a burden than a haven. Assuming your wife's folks opted for a more carefree lifestyle, sold the family home, and gifted you the proceeds from the sale, good fortune has graced your door! Not only do you have generous in-laws, but the money that was gifted is not taxable to you or your wife. If you place the money into a money market account, the only tax liability you may incur will be on any interest earned. Since your wife's parents still owned the home in this scenario, any gain on the sale would be includable on their income tax return.
Your wife's parents gifted you the home while they were alive, and you and your wife sold it.
Things get a little more complicated if the home was gifted to you and your wife, and after it was gifted, you sold the home. In this situation, any gain from the home sale would be included on your income tax return. The amount of gain (if any) includable on your return will depend on the following factors:
- Your in-law’s adjusted basis in the home immediately before it was gifted to you and your wife.
- The fair market value of the home just before it was gifted to you and your wife.
- The amount of any gift tax your wife's parents may have paid when they gifted the property to you and your wife.
Generally, the adjusted basis of a home is:
- Its purchase price, plus
- The cost of any substantial improvements, plus
- The cost of any major restorations made to the home due to a casualty or theft that were not reimbursed or covered by insurance, minus
- The amount of any depreciation allowed or allowable on the home (Depreciation would come into play if the home was ever used as a rental or if your wife's parents deducted an office in the home on their income tax return.), and minus
- Any casualty or theft loss deductions and insurance reimbursements your wife's parents may have received while they owned the home.
The home's fair market value immediately before it was gifted can be determined by getting an appraisal of the home by a qualified appraiser. If an appraisal was not obtained before the home was gifted to you and your wife, you could hire a home appraiser to appraise the home as of the date before the home was gifted. If you were gifted the home and immediately sold it, the fair market value would be the home's sales price, provided the home was sold to an unrelated third party and not at a discount. If the home's fair market value were
equal to or more than your in-laws' adjusted basis in the home, then your basis in the home would be your in-laws' adjusted basis.
The calculation becomes more like a Rumpelstiltskin riddle if the home's fair market value is less than the adjusted basis. If the fair market value were
less than your wife's parent's adjusted basis, then you and your wife's basis in the home would depend if you had a gain or loss on the home when you sold it. If you sold the home at a gain, then your basis in the home would be your wife's parents' adjusted basis in the home, plus any improvements you made before selling and minus any depreciation taken or casualty or theft loss deductions or insurance reimbursements you received. Conversely, if you sold the home at a loss, your basis would be the home's fair market value right before the home was gifted to you and your wife. What happens if you use your in-laws' adjusted basis to figure the gain and mathematically end up with a loss? Or you use the home's fair market value to calculate the loss and discover you have a gain? In addition to taking aspirin for your raging tax headache, you would have no gain or loss on the sale of the home. See
IRS Publication 551, Basis of Assets, as an example of these calculations on page 9 under the heading "FMV Less Than Donor's Adjusted Basis."
What about the holding period on a home that is gifted? How long a property is held or owned by the seller will determine if any gain is taxed at the seller's ordinary tax rate or the special long-term capital gains tax rate. Generally, when a property is held for one year or less and sold, any gain is taxed at the owner's ordinary tax rate. However, if a property is held by the taxpayer for over one year and then sold at a gain, the gain is taxed at long-term capital gains rates between 0% and 20% based on filing status and taxable income. When a property is gifted, the recipient retains (keeps) the same holding period the giver had in the property. So, if your wife's parents originally purchased the home gifted to you in 1973, you and your wife's holding period would also start in 1973, even if you sold the home within days of receiving it.
Perhaps the best answer I can give you to your question is "it depends." Most tax consequences depend on a taxpayer's facts and circumstances. If taxes were not complicated enough, some tax implications might depend on someone else's facts and circumstances, such as the grantor (person who gave the gift) or decedent (person who died.) With a bit of detective work, some persistence, and the advice of a knowledgeable tax professional, the riddles and mysteries of the Tax Code can be solved.
Wishing you financial prosperity and many happy returns,
Jean Lee Scherkey, EA