November 30, 2006

Guest Post – Capital Gains Inequities Among Seniors

Posted in Planning, Tax planning at 3:59 pm

(This guest post was written by James Hall, CLU, with assistance from John Upton and Dunham Sherer, Esq.)

Are State (Prop 13) and Federal Estate Tax Laws limiting home inventories for sale, resulting in a permanent commitment to higher prices and unfair capital gains treatment between surviving spouses and senior couples selling their homes? The solution may be federal legislation to eliminate capital gains for seniors by eliminating the current 250,000 per person exemption Capital Gains Tax.

The positive side effects of allowing seniors (age 65) to sell their homes and personally owned commercial property capital gains tax-free are as follows:

  1. It is fair to all seniors age 65 and older by giving all equal financial options.
  2. It should increase the inventory of real estate, making the market more competitive.
  3. It will increase local tax revenues, because under Proposition 13, the property tax base increases by only 2% per year, unless real property is sold, at which point it increases to current market value. Seniors selling tax free will bring in a current market price taxpayer, and raise the property taxation base to current market value.
  4. It frees up dead equity capital and moves some of it into the free market.
  5. Help relieve the Proposition 13 constraint upon real estate sales, and as a result develop more property tax revenue without changing the Proposition 13 legislation.
  6. Schools should be the #1 beneficiary of increased property tax revenue.

Why do some seniors pay huge capital gains when selling their homes while others pay nothing? The reason is a little known part of the 1981 Federal Estate tax legislation referred to as the “Step-Up-In-Basis-At-First-Death.” This provision means that a current surviving spouse can sell their home for any price with no tax obligation at all. Contrast that to a senior couple across the street that will have to pay a 24% capital gains tax on all gain above the $250,000 per person exemption. In many neighborhoods, that can now amount to a tax of $300,000 and much more on the couple, while the current surviving spouse can make the same sale and move on with no tax obligation at all.

A further point is that this step up provision doesn’t only apply to homes. It applies to both halves of the entire estate. This includes commercial property, cash, stocks, bonds – everything. This is clearly special interest legislation for the very rich to eliminate Capital Gains.

The vast majority of Californians owning homes don’t think Estate Tax legislation applies to them. They are wrong. It applies to millions of homeowners in California and in other parts of the country, who may need to sell and realize gains in excess of the $250,000 per person exemption. They aren’t rich and many can’t afford a huge tax at sale. There are an increasing number of neighborhoods where properties have appreciated more than the current $250,000 per person exemption, yet the tax only impacts the couple who must sell, not the current surviving spouse at any age.

A partial equity solution to property tax inequality would be to give equal treatment to senior couples and surviving spouses, at least with respect to real estate sales. The long-term effect of the existing Federal Estate tax legislation is to create an increasing financial incentive for seniors to stay where they are and hold property until a death occurs. It leads to limited inventories, lower potential property tax revenues in older neighborhoods and ultimately higher prices for residential and commercial real estate.

The current legislation has increasingly become special interest legislation that transfers the property and capital gains taxes to middle class homeowners and senior couples who must sell. The effects of this legislation have been over 20 years in the making. The inequities created are obvious. What will the next 20 years bring, with continuing inflation and no change in the current laws, other than increasing inequities among surviving spouses and senior couples?

Is it any wonder why California real estate values continue to rise with special interest legislation that penalizes home and commercial real estate sales by senior couples? Its unfair that some seniors get a capital gains break on the sale of their property and others do not. Eliminate the capital gains tax on property and many seniors will sell at a convenient time, which will increase housing supply and lower prices. The time for legislation to correct these effects on the real estate market is long past due.

James U. Hall, CLU, Monte Sereno

2 Comments »

  1. Gareth said,

    August 16, 2007 at 1:13 pm

    What is the likelyhood of this actually happening?

  2. francine manis said,

    July 29, 2008 at 7:25 am

    I don’t quite grasp the concept “step-Up-at=basic-at-first-death’ concept. What exactly does that mean, who qualifies, is there a category, form or what that allows us seniors to take advantage of this. Do you have to be inn a specific financial bracket to qualify and why hasn’t my attorney mentioned it before? Is there another way of saying the same thing but just in different words? Should could use the advice and education.Also, how does the executor of an estate know this law exist?

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