What Are Some Tax Advantages of Home Ownership?
by Tania Wu, Realtor and Real Estate Investor
Depreciation: Investment properties get a tax deduction against the rental property income equal to the building or condo value divided by 27.5. This is because the IRS assumes that if you didn't do anything to the property, it would be worthless after 27.5 years. As you take this deduction, the tax basis of the property is lowered. After 27.5 years, no more such deduction can be taken, and we call the property fully depreciated. However, when you sell the property, the IRS will tax you on any gain relative to this adjusted basis, not the original purchase price. Therefore, many sellers of investment properties use 1031 tax-deferred exchanges to avoid paying this tax at the time of sale so they can use all the proceeds to buy more real estate.
Once you buy another property, the depreciation clock is reset and starts from the beginning for that property. If they keep on doing this when they sell their property, when they pass on and their property goes to their heirs, the heirs receive what is known as a step up in basis to fair market value, meaning that the heirs won't be responsible for paying large tax bills out of pocket if they sell the property they inherited. They might have to pay estate tax however if the parents were super-wealthy. If you just live in your home, you can only deduct depreciation for the portion of the home exclusively used for business, such as a home office.
Owner-occupied exclusion: If you sell a home you lived in for two out of the past five years, you are exempt from tax on the first $250,000 of increase in price of the home, $500,000 if you are a married couple. Thus,if you have lived in your home for long enough for the value to double, you may want to consider selling your home and buying a different one of the same value so you won't have to pay tax on the next $250,000 or $500,000 of appreciation in the years to come.