Do I have to pay taxes on this quitclaim?

[shelley1991]

My sister and I are joint tenants of a home.  We are not on good terms.  I am in need of money and want to sell my share of the home to her.  I am thinking she can do a cash-out refinance for an amount to cover for my share of the home and I can quitclaim the home to her.  Should the cash-out refinance and quitclaim occur at the same time?  Do I have to pay any taxes for this quitclaim?  Thank you.

[Mike9241]

is the home a residence for one or both of you or investment property (rental?) ?   if your primary residence,  have you owned and lived in it for 2 out of 5 years before sale.   in effect, you are selling the property to your sister. so you'll probably need to report it. taxation will depend on many factors answers to the above. 

[shelley1991]

It is my primary residence that I have lived for several years and still currently live at.  She does not live here but may move in if I leave.  The home has over $600,000 capital gains.  Both she (after living 2 years) and I can claim $250,000 exclusion.  If home was sold today, I would pay taxes on $50,000 and she would pay taxes on $50,000. 

However, this is the confusing part.  Assuming no home value change.  She feels that once I am off deed, she will be taxed based on $350,000 ($600,000 capital gains minus $250,000 exclusion) if the house is sold after 2 years.  So she thinks that I should pay her an additional percentage for this taxed amount.  So I would be taxed twice?

Would the gift tax apply in this situation instead?  Thank you.

[Carl]

You have 50/50 owners of a property and one owner sells their share to the other owner.

If the property was the primary residence of the seller for at least 2 of the last 5 years they owned it, then the seller will not pay taxes on a maximum $250,000 gain. Keep in mind that the seller (you) also has a cost-basis in the property. So while you may get $300,000 for your share, when you subtract your cost basis from that it's perfectly possible your "gain" will be under the $250,000 exemption threshold anyway.

Note that this will not be a "quit claim", as it will be a sale and would be recorded as such, provided the buyer is in fact, taking out a mortgage to buy it.  Now this sale "may" raise flags with the IRS, only because the seller is selling to a related party. But even so, I don't see any problems or issues with the IRS on that.

[Anonymous_]

A quitclaim is a type of deed, @Carl, and is separate and apart from the issue of whether any consideration is paid for the property (i.e., you can sell a parcel of real estate you own and use a quitclaim deed to transfer title).

[Anonymous_]

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@shelley1991 wrote:

Would the gift tax apply in this situation instead?  

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The gift tax would not be applicable if your sister is paying you fair market value in exchange for your share.

Your sister's basis in the property (after she buys your share) would be whatever she originally paid for her one-half of the property plus whatever she pays you for your share. 

[Opus 17]

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@shelley1991 wrote:

It is my primary residence that I have lived for several years and still currently live at.  She does not live here but may move in if I leave.  The home has over $600,000 capital gains.  Both she (after living 2 years) and I can claim $250,000 exclusion.  If home was sold today, I would pay taxes on $50,000 and she would pay taxes on $50,000. 

However, this is the confusing part.  Assuming no home value change.  She feels that once I am off deed, she will be taxed based on $350,000 ($600,000 capital gains minus $250,000 exclusion) if the house is sold after 2 years.  So she thinks that I should pay her an additional percentage for this taxed amount.  So I would be taxed twice?

Would the gift tax apply in this situation instead?  Thank you.

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Let's start with the question of gain.  That depends on how much you paid for the property, or the value when you inherited it, and we may want to pursue that further.

Moving on, we will assume you are correct that there is $600,000 of overall gain.    You haven't said what the overall value is or the proposed price she would pay for your half.  That all affects the outcome.

I think you also misspoke, if you both sold today, you qualify for the exclusion but she does not, so you pay tax on $50,000 but she pays tax on $300,000.

Let me create an example for you. Let's assume you jointly inherited the home from a parent, and the value on the date of the parent's death was $400,000 and the current value is $1 million.  That would represent a gain of $600,000.  Each sibling has a cost basis of $200,000, and each sibling would have a gain of $300,000 if the home was sold today.

Suppose your sibling buys you out at full fair market value of $500,000.  You have sales proceeds of $500,000, a basis of $200,000, which equals a $300,000 gain, and you qualify for the exclusion.

Now, your sibling's cost basis is increased by the price they paid for your half.  In this case, your sibling's cost basis is increased to $700,000 (her original $200,000 basis plus what she paid for your share).  If she sells for $1M, her gain is still only $300K (selling price minus her adjusted basis).  And if she manages to wait the 731 days, then she would also qualify for a $250K exclusion.  You don't owe her anything because she takes a basis adjustment of whatever she paid you. 

[Opus 17]

@shelley1991 

Note further, you might have a gift situation if you accept less than fair market value.  If the home is worth $1M, but you agree to accept $400K in cash for your half, then you are giving your sister a $100K gift of equity.  That requires the filing of a form 709 gift tax return, and it does not adjust your sibling's cost basis**.  That is, if you accepted $400K and you gave a gift of equity, then your sibling's adjusted basis is 200+400=$600K, and they would have a $400K taxable gain if they sold at that price.

**If you are required to pay gift tax, then your sibling's cost basis does get an adjustment for the gift.  But this is uncommon. Most people never actually pay gift tax even though large gifts are considered taxable, because you have a lifetime deduction of $12,060,000. You don't actually pay gift tax unless your lifetime gifts are more than your lifetime deduction.   

[shelley1991]

I understand.  With the adjusted basis, it makes more sense.  Thank you.

[shelley1991]

This is making more sense.  Thank you.

[shelley1991]

Very good example.  I assume this only needs to be filed one time.  But still a little confused.  I read it a few times and want to make sure. 

If "your sibling's adjusted basis is 200+400=$600K".   Does that mean the 200 (original cost basis + 400 (cash amount she is paying me) = $600K (sister's new cost basis) ?

Dos that mean her basis has been adjusted?  I think I am missing something.  Thank you.

[Opus 17]

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@shelley1991 wrote:

Very good example.  I assume this only needs to be filed one time.  But still a little confused.  I read it a few times and want to make sure. 

If "your sibling's adjusted basis is 200+400=$600K".   Does that mean the 200 (original cost basis + 400 (cash amount she is paying me) = $600K (sister's new cost basis) ?

Dos that mean her basis has been adjusted?  I think I am missing something.  Thank you.

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If your sister buys your half of the house, she adds the price she pays to her original basis in her half of the house.

In my example, if you each own half the house and share a $400K basis, then you each have a basis of $200K in your half-share. If she pays you $500K for your half-share, then:

• your gain is the difference between the selling price for your half-share and your basis in your half-share.  Your gain is 500K minus 200K equals 300K.
• your sister adds the price she paid for your half-share to her original basis for her half-share.  Her new adjusted basis for the whole house is 200K plus 500K equals 700K.  Any future gains, if and when she sells, will be determined from her selling price and her new basis.

Your sister’s basis is increased by whatever she actually pays you, regardless of the actual or theoretical value of the property. 

You don't "file" the basis.  Keep proof of what you did with your other tax records for as long as you/she owns the house plus at least 3 years after, in case of audit.  You report the sale of your share as a capital gain on your tax return for the year you sell your share, and your sibling reports the sale of the whole house on their tax return for whatever year they sell it.  

[shelley1991]

I'm sorry Opus17.  I understood your first reply post.  My confusion and questions were actually about the part regarding the gift tax reply post?  When I clicked the reply button, it didn't link to your response.  Thank you.

[Opus 17]

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@shelley1991 wrote:

I'm sorry Opus17.  I understood your first reply post.  My confusion and questions were actually about the part regarding the gift tax reply post?  When I clicked the reply button, it didn't link to your response.  Thank you.

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If sorry that the gift issue is complicated, I probably shouldn't have mentioned it at all.  

The usual situation most of the time is that you won't have to pay gift taxes on the gift. 

As long as you don't pay gift taxes, the bottom line for your sister is that whatever your sister pays you in cash (or other financial consideration), is added to her basis.   If she pays you less than fair market value for whatever reason, she only increases her basis by what she actually pays.  (Or if she pays you more than market value, she increases her basis by what she actually pays you.)

If you do pay gift taxes, then your sister can include that in her cost basis as well.  This is the complicated part, 

First, is it a gift?

If you turn over your share for less than the fair market value, you may be considered to be giving her a gift of equity for the unpaid portion of the home.  But this is tricky, because it can be hard to determine market value.  Suppose you think the house will sell for $1M, so your half is worth $500K.  But that's with a real estate agent, and ads and staging and it might take months to find a buyer in a slow market.  If you agree to accept less so you can be done with it, that might not really be "selling for less than it's worth" when you include all those other factors, so it's not really a gift.

If it is a gift, is it taxable?

If we assume that you are giving part of your equity to your sister, you must report the gift on form 709.  But you don't actually pay gift tax unless the total of all the gifts you have made in your lifetime is more than $12 million.  That's why almost no one pays gift taxes even if they make large gifts.

How does gift tax affect basis?

We assume now that you are giving part of your house to your sister, and the gift is taxable.  Suppose you pay $25,000 of gift tax.  Your sister can increase her basis by the amount of gift tax you paid, even though she didn't pay that toward the house. 

So going back, the actual situation is that you probably won't have a gift to report (for various reasons), and even if you did, you probably won't pay gift tax, so your sister's basis will increase by the amount of money or financial consideration she actually pays you for your share. 

[shelley1991]

@Opus 17 

Thank you so much Opus 17 for the detailed explanation and the time you put into the answers and examples.  I understand what you are saying.  😀