My wife and I bought a beautiful lakeside home for $700,000. It’s now worth $1.2 million. Do we sell now to avoid capital gains?

Dear Quentin,

My wife and I were fortunate to retire and buy a house for about $700,000 in a growing lake community in 2012. The work-from-home boom of the past few years has increased local housing prices significantly — you can imagine how the ability to do business while sitting on your dock increases housing demand. Our house is now worth over $1.2 million, which has left us with a good problem in that my wife and I have reached the $500,000 married-couple limit for the exclusion of capital gains. 

I’ve been trying to convince my wife to take the $500,000 exclusion and move so we can restart the capital-gains exclusion on a new house, but so far she is determined to stay in the current house. Our lake community is far from medical offices, and I fear that if we stay in the home and our health eventually declines, we would be forced to sell and move elsewhere, which could hit us with a big tax bill should home prices continue to go up. 

Is there any advice you can give that might help us avoid or limit a future tax bill due to capital gains on the lake house?

Happy to Have a Problem

“If you are both genuinely content living in this lake house and you believe it is, or could be, your forever home, think of it another way: You bought a $1.2 million home for $700,000.”

MarketWatch illustration

Dear Happy,

Yours is that age-old question: Do you choose happiness or take the money? Do you choose practicality or beauty? Or do you choose a bigger house next door?

First, a recap: Existing legislation allows for single-tax filers to exclude $250,000 in capital gains, but that doubles to $500,000 for joint filers such as you and your wife. The amount, set in 1997, has not budged in 26 years. Capital-gains tax is levied at both the federal and state level. Long-term federal capital gains for a house you have owned for over a year are taxed at 0%, 15% or 20%, depending on what income-tax bracket you belong to.

If you are both genuinely content living in this lake house and you believe it is, or could be, your forever home, think of it another way: You bought a $1.2 million home for $700,000. That’s a win-win whatever way you look at it. Weigh up the pros and cons of staying in the home from a purely lifestyle point of view. If you genuinely believe that you should be closer to medical facilities — and I think that’s an important consideration — then move. If it’s not going to be your forever home, then move. If it is, make peace with that decision.

From a purely financial point of view, there’s an argument for selling, but you will be paying more in property tax and moving costs. What you lose in comfort, security and memories, you will save in capital-gains tax over the long run. But do you want to spend your life buying and selling homes? Are you the kind of couple who likes change and thrives on new experiences? Do you get excited by the experience of finding a new home? At what point do you decide to settle down? If you’re now in your 60s, there will come a time to let go of the rat race and enjoy your downtime. 

The distance you want to live from a hospital will depend on your own health and expectations for longevity, and on your comfort level. The Pew Research Center carried out a study on how far people live from a hospital: People in rural areas live an average of 17 minutes from a hospital, compared with 12 minutes for people in suburbia and just over 10 minutes for those in urban areas. “These findings come amid a wave of rural hospital closures in recent years that have raised concerns about access to health care,” the report said.

You can also buy yourself more time by making capital improvements. If you spend $50,000 renovating your home — adding a veranda, for instance — you can deduct that expense from the capital gains. But not all renovations and repairs are eligible. In New York, for instance, the improvements must “substantially” add to the value of the property or appreciably prolong the useful life of the property, and must be “permanently affixed” so the removal would cause material damage to the property itself. They must be, in essence, a “permanent installation.” 

Remember: If your property goes up in value to $1.5 million, you will only be paying capital gains tax on that $300,000, not including sales fees. It’s free money — after taxes, anyway.

Whatever you decide, don’t let Uncle Sam spoil your view. 

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