A TAXING QUESTION

O.K. lets say I build a medium to small house for around $20,000. The house gets valued at $50,000, thats $30,000 in equity. In Texas I can only loan 80% LTV so I get a mortgage for $40,000. Well thats $20,000 in pocket after paying off construction costs. Now, my question is. What if I sold the property a month or two down the road for lets say $55,000. Would the $20,000 a cashed out in equity be taxable? It shouldn't being that its owed in mortgage. Right!!! The way I understand is only the $15,000 is taxable as profit. Any comments.

Comments(3)

  • dgtop4th December, 2003

    As best I can glean from that question. You would be taxed on anything over 20k because that is your basis for the house. Doesnt matter you that you mortgaged and took 20 more out. You will be tax liable for anything over what you originally paid for it(When you sell). Which from this example would be 35k of profit. Plus since you are a builder. You will be taxed at regular income instead of the preferred capital gains rate.[ Edited by dgtop on Date 12/04/2003 ]

  • burrellc4th December, 2003

    So, if I purchased a house for $40,000 that already had equity. Then refied to cash out $10,000. Lived in it or had it occupied for lets say 5 years, then sold it for $55,000 ($5,000 profit) Your saying even though I owe $50,000 declaring a $5,000 profit, I would have to pay taxes on a $15,000 profit.. Please explain..Your help is appreciated...

  • RonaldStarr4th December, 2003

    Burrell C------------------

    No, you are mixing together two very different circumstances and thus there would be two very different results.

    If you lived in the property for at least 2 years, it is considered your personal residence and when you sell it you can take an "exclusion" from the federal capital gains tax for up to $250K per person on title and living in it during that time. That means you only pay federal capital gains taxes on the profit over $250K, any lesser amount of profit is not taxable.

    However, if you have somebody else living in the property, it is not your personal residence. Thus, the rules related to personal residence do not apply.

    Instead, you have an investment property. As you go along, you can take deduction from your income taxes each year for the "depreciation" of the structure of the property. When you sell, you will take your net selling price, subtract out the original purchase price, add in any capitalized expenses on the property and that is your gain which is taxed, after five years in your example, at long terms capital gains rate. Also, you must pay a higher percent in "recapture" tax on the amount that you depreciated over the years. And not depreciating as you go along does not prevent you having to pay the recapture tax. Because the recapture tax is paid on depreciation "taken or that could have been taken" even it was not taken. This is in the tax law. So, always take the depreciation to which you are entitled, otherwise you will pay tax as though you had taken it and you will not have the benefit of having taken the depreciation.

    A couple of other points. This is the wrong forum for asking this question. This forum is for investing in tax liens and buying properties at tax sales. There is another forum relating to taxes in real estate investing.

    You might want to study up on tax treatment of real estate deals. I think it is important to understand it. Many people make very bad moves because they don't understand the tax ramifications of their actions. They often pay way more taxes than they would have had to do if they had made the correct moves. I can recomend the book "Agressive Tax Avoidance for the Real Estate Investor" by Jack Reed. It is an excellent book. It can be bought only at his website http://www.johntreed.com. [replace " dot " with "."]

    Good Investing*************Ron Starr**********

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