Your Home and Your Estate Plan: Sell It or Hold It?

Current income taxes aren’t the only factor to consider when deciding whether to sell a longtime residence or hold it for the rest of your life.

In the February 2024 issue, we discussed how a gain from the sale of a home is taxed when sold by the owner who used it as a principal residence. Last month, I pointed out that a married couple that owns a home can sell the home and exclude up to $500,000 of gain from income when certain conditions are met. Single homeowners can exclude up to $250,000 of gain.

But minimizing current income taxes on the sale of a home isn’t the only consideration for some homeowners.

Some people don’t have a strong reason to sell their homes when they retire or during retirement. Also, they might have gains in their homes that exceed the amounts that would be tax free in a sale.

These homeowners should consider the long-term tax consequences for the entire family of selling or holding the home. The same analysis should be applied to other assets.

When you sell a home or other asset during your lifetime, the gain or loss is the amount realized on the sale minus your tax basis in the home. The tax basis usually is your original cost, plus the cost of any improvements you made.

But the tax basis changes after a home or other asset is inherited, and the change can reduce a family’s tax cost and increase the wealth of the next generation.

When an asset is inherited, the heir changes the tax basis to its fair market value on the date the previous owner passed away. (There’s an option for the executor of the estate to change the date to nine months after the owner passed away. The executor might want to make this election when a market crash or other event caused the value of the asset to decline swiftly after the owner’s death.)

Thanks to the increase in the tax basis, when an asset appreciated while the deceased owner held it, the heir can sell the property soon after inheriting it without anyone paying taxes on that appreciation.

Suppose Max Profits purchased a home in 1980 for $150,000. He and his wife, Rosie, raised their family and lived there for the rest of their lives. Rosie died in 2020. Max dies in 2024 and his son, Hi, inherits the home when it is worth $1,300,000.

Since the tax basis of the home to Hi is the current fair market value, he can sell the home right away and have $1,300,000 tax free.

If Max had sold the home for around $1,300,000, even if he qualified to exclude $500,000 of gain from gross income, he still would have $650,000 of taxable gain. At the 15% tax rate, the taxes would be $97,500.

There are factors other than taxes to consider when deciding whether to sell a long-time residence. But when the gains are significant, the tax savings from holding the home and letting others inherit it can be significant.

The analysis applies to assets in addition to the family residence, such as stocks and mutual funds that have been held for years. Consider how much additional after-tax wealth family members would receive if you continued to hold the asset and let others inherit it.