Can I avoid capital gains on this house sale?

[webguy]

Hey guys, I have a question that I can’t find the answer to on Google, so figured I’d try my fellow smart mustachians!

We lived in a house in another state until August 2023, at which point we sold it and were able to use the 2in5 rule to avoid paying capital gains. We moved into a house we already owned (bought back in 2015) on that date and have lived in it for almost 1 year currently. We just found a house we want to move into but would like to avoid capital gains selling our current house. The capital gains tax would be about $75,000. The new house is right round the corner from our current house.

My question is: can we buy the new house, but still declare our current house as our primary residence until the 2 years is reached in August 2025 in order to avoid paying capital gains again? My thought is that we could live in the new house but have our mail delivered to the old house so it appears as though we still live there. Is there anything I’m missing here? I couldn’t seem to find any definitive info on how the IRS confirms that a house is your primary residence.

[iluvzbeach]

Am I understanding correctly that you’re not only looking for a way to fraudulently report your primary residence but also asking fellow forumites for help on how to do it? Pretty sure this is against the rules.

[Dee18]

+1 to iluvzbeach
What you are proposing is both a federal crime (with a maximum penalty of 5 years in jail and substantial fines) and/or could subject you to civil penalties.  Either pay the tax or rent out your new home for a year before moving into it to legally avoid the tax.  Keep in mind that if you choose to break the tax laws anyone who knows  (which it sounds like would include many neighbors) can call the IRS and get a reward for alerting them to your illegal act.

[SilentC]

It’s too risky.  The government will know a lot about the transaction especially if you apply for a mortgage.

[webguy]

Thanks for the replies! It would be a cash purchase so no mortgage. It’s not feasible to rent the new place out for a year unfortunately so it would be left vacant if we waited to move in. It’s 1 minute from our existing house so my thought was we could move in and just keep all our mail and utilities at our existing house so it doesn’t look like anything has changed. Then just pick up mail/packages from the old place. The alternative would be to buy the new place and then leave it vacant for close to a year.

[Bartlebooth]

Just follow the rules, dude.  You made $75,000 in profit now pay up!  If you have a shred of integrity you will pay the tax or truly live in the old house for another year.

INTEGRITY

[GilesMM]

As long as you own the old house two years you are mostly ok. You can work out which is your primary residence for state and federal tax purposes and it is somewhat subjective and related to where you are registered to vote, drivers license, etc.

[sonofsven]

I think it would work since you're not renting out the existing house.
I sold a few houses with the cap gains exclusion and 1031 exchanges years ago and  had discussions with my (trusted) realtor about strategies and she indicated that your scenario was one that she had seen done successfully.,but if I remember correctly they had written up a bogus rental contract for the new home as well.
She wasn't recommending it, because of the risk, and it wasn't something I was considering, fwiw.

[Dee18]

I just saw that the OP, webguy, previously posted the following:

"Married filing jointly, mid-late 30s.
We just moved from a zero income tax state to a high income tax state (Minnesota) last month, so for this tax year I qualify as a resident of the zero tax state.
My income for the past few years has been high (1M+) and so have been using traditional retirement accounts when possible."

I'm horrified that someone on MMM who had multiple years of an annual income of 1M+ is considering committing federal crimes to avoid paying $75,000 in taxes. 

[franklin4]

Well, it's 75k in gains not tax but that doesn't change your point.

That's an interesting discovery! If I had income that high there's no way I would share a hint of the dollar amount online, even in this mostly anonymous setting.

[sonofsven]

Well, it's 75k in gains not tax but that doesn't change your point.
According to the OP it's $75k in tax.

That's an interesting discovery! If I had income that high there's no way I would share a hint of the dollar amount online, even in this mostly anonymous setting.

[Villanelle]

I recommend you fake your death, then start over with a new social security number purchased on the black market. 

Your heirs will inherit the stepped-up basis.  You could also access and life insurance policies you have in place.  (Perhaps purchase an additional policy before faking your death, but make it small enough that it doesn't cause suspicion.  It's a balance, so be thoughtful about it

When you disregard laws, ethics, and any obligation to contribute to society when you make 7-figures annually, the world is your [free] oyster!

/s

[franklin4]

According to the OP it's $75k in tax.

You are correct, my mistake!

[SilentC]

I recommend you fake your death, then start over with a new social security number purchased on the black market. 

Your heirs will inherit the stepped-up basis.  You could also access and life insurance policies you have in place.  (Perhaps purchase an additional policy before faking your death, but make it small enough that it doesn't cause suspicion.  It's a balance, so be thoughtful about it

When you disregard laws, ethics, and any obligation to contribute to society when you make 7-figures annually, the world is your [free] oyster!

/s

lol!  Loved this.  In some regard the forum is being pretty hard on this, I mean WTF should people get a cap gains deduction on residential real estate based on living there for two of the last five years?  But we voted for all the people who made these stupid tax laws so might as well adhere to them.  This is definitely tax evasion not tax avoidance, I’m all for avoidance. 

[bacchi]

Ask your CPA. See if they'll agree to this scheme and sign the tax return.

[webguy]

This is making me laugh how much of a nerve this topic seems to have hit. You’ll be horrified to know that I’ve also driven above the speed limit, had a drink before the legal age, and ran a business where I’ve expensed my personal phone bill!

I’ve paid well into 7-figures in federal taxes alone and think it’s ridiculous that the federal government can tax us on capital gains made on a personal home sale, on top of the property taxes we already pay, so excuse me for trying to find a way to avoid losing another $75,000 in taxes!

[former player]

There's an easy and legal way to avoid paying capital gains tax on your current residence: you live in it for just over another year.

Is it worth a year of your life in your current house to avoid paying $75k in tax?

There are people who go to extraordinary lengths to avoid paying tax, including comming crimes or moving countries.  Personally I'll pay the taxman money but won't pay him in my life choices.

You do you.

[Paper Chaser]

$70k is 7% of a $1M annual income. What would your advice be to somebody that made $75k annually and wanted to avoid an equivalent $5250 tax bill? Would you suggest dubious workarounds that could lead to trouble?
You're in the prime of your life, and making insane income. Why jeopardize that over what is a pretty trivial amount? $70k is like 3 weeks' worth of income for you, and that's if you're only making a flat $1M/yr. I'm sure that seeing big numbers go out in taxes is no fun, but you're generating much, much larger numbers coming in. I don't think this is worth the hassle or risk of trying to own multiple homes while you game the system for a relatively small benefit. Sell the house and pay the taxes, or wait another year and then sell tax free.

[webguy]

$70k is 7% of a $1M annual income. What would your advice be to somebody that made $75k annually and wanted to avoid an equivalent $5250 tax bill? Would you suggest dubious workarounds that could lead to trouble?
You're in the prime of your life, and making insane income. Why jeopardize that over what is a pretty trivial amount? $70k is like 3 weeks' worth of income for you, and that's if you're only making a flat $1M/yr. I'm sure that seeing big numbers go out in taxes is no fun, but you're generating much, much larger numbers coming in. I don't think this is worth the hassle or risk of trying to own multiple homes while you game the system for a relatively small benefit. Sell the house and pay the taxes, or wait another year and then sell tax free.

If I was making $1M/yr I probably wouldn’t be asking the question, but I haven’t made that much since 2022. My income now is substantially lower since I FIREd, so saving $75,000 (or more potentially) would make a material difference. Either way, thanks for your input. If we buy the house we’ll probably just stay here and use it on weekends or something until the 2 years passes.

PS. I wasn’t taking home $1M/yr. That was before taxes.

[clarkfan1979]

$70k is 7% of a $1M annual income. What would your advice be to somebody that made $75k annually and wanted to avoid an equivalent $5250 tax bill? Would you suggest dubious workarounds that could lead to trouble?
You're in the prime of your life, and making insane income. Why jeopardize that over what is a pretty trivial amount? $70k is like 3 weeks' worth of income for you, and that's if you're only making a flat $1M/yr. I'm sure that seeing big numbers go out in taxes is no fun, but you're generating much, much larger numbers coming in. I don't think this is worth the hassle or risk of trying to own multiple homes while you game the system for a relatively small benefit. Sell the house and pay the taxes, or wait another year and then sell tax free.

If I was making $1M/yr I probably wouldn’t be asking the question, but I haven’t made that much since 2022. My income now is substantially lower since I FIREd, so saving $75,000 (or more potentially) would make a material difference. Either way, thanks for your input. If we buy the house we’ll probably just stay here and use it on weekends or something until the 2 years passes.

PS. I wasn’t taking home $1M/yr. That was before taxes.

Avoiding taxes legally is celebrated on this forum. We all do it. However, when you start asking questions on how to avoid taxes with fraud, you are going to get zero support on this forum. Your original post is still kind of vague with details so it's very difficult for anyone to give you a good response. Was your profit on the house 75K or will you owe 75K in taxes?

[webguy]

Yeah I see that, no worries, I appreciate everyone’s input. To answer your question the taxes would be $75,000 or more.

[waltworks]

Top ridiculously entitled post of the year. Wow. Rich retired guy wants to commit fraud to save money he almost certainly has no use for.

While you're at it, you could charge your friends to use the WiFi in your house, while lying about your income and assets in order to get free internet service. I bet I could come up with other great ideas...

"An investing genius who built a fortune worth more than $2 billion in today’s dollars, Hetty Green was considered the richest woman in the U.S. in her day. But she was even better known as the Witch of Wall Street, a nickname that fit both her icy-hearted business practices and her habit of dressing entirely in black. Green was also a notorious skinflint.

When she needed to see a doctor, she would don the shabbiest of her black garb and head to a free clinic, signing in under a false name to avoid paying."

-W

[bacchi]

There's an easy and legal way to avoid paying capital gains tax on your current residence: you live in it for just over another year.

It's unclear from the OP whether the house was a non-rented vacation house, sitting there empty, or was a rental.

If the current house was rented out, any gains would be prorated and there's also depreciation recapture. If this is the case, reporting $0 taxable cap gains seems like it would draw attention from the IRS.

[rothwem]

Why not just rent the new house out for a year while you're in your current house for another year to avoid the cap gains? 

[deborah]

It appears to me, a non-USAian, that you may be viewing this from the wrong angle. Capital gains on property is paid according to your income (or so I’m told by google), and can be 0% on some incomes. You have said that you’re FIRE. As many FIREd people on this forum manipulate their income so that they are eligible for cheap ACA or other medical coverage, surely you can manipulate your income to be at 0% capital gains for the year in which you sell the property.

As the new property is just around the corner from the existing one, would a $75,000 renovation on the existing property actually make it worth staying?

[Dicey]

This is making me laugh how much of a nerve this topic seems to have hit. You’ll be horrified to know that I’ve also driven above the speed limit, had a drink before the legal age, and ran a business where I’ve expensed my personal phone bill!

I’ve paid well into 7-figures in federal taxes alone and think it’s ridiculous that the federal government can tax us on capital gains made on a personal home sale, on top of the property taxes we already pay, so excuse me for trying to find a way to avoid losing another $75,000 in taxes!

You know the IRS doesn't care what you think, right? And they have plenty of power over you, the will to exercise it, and infinite resources, right? Pay the taxes and live an honest life.  Or maybe you'll get a lowball offer that you can accept so your gains will be smaller. No, don't do that. Take the gains, pay the taxes and move into the home of your dreams. Personally, I believe houses are relatively easy to come by, so I'd wait just long enough and structure the deal to pass the two year mark. That might mean I was making an offer on a different property, but you do you.

Bottom line: if this new house is the be-all, end-all, then just mentally add the taxes to the cost of the house. Still want that house at the higher price? Go for it!

As Shania Twain sings: "Don't be stupid."

[Jaybo]

Hey guys, I have a question that I can’t find the answer to on Google, so figured I’d try my fellow smart mustachians!

We lived in a house in another state until August 2023, at which point we sold it and were able to use the 2in5 rule to avoid paying capital gains. We moved into a house we already owned (bought back in 2015) on that date and have lived in it for almost 1 year currently. We just found a house we want to move into but would like to avoid capital gains selling our current house. The capital gains tax would be about $75,000. The new house is right round the corner from our current house.

My question is: can we buy the new house, but still declare our current house as our primary residence until the 2 years is reached in August 2025 in order to avoid paying capital gains again? My thought is that we could live in the new house but have our mail delivered to the old house so it appears as though we still live there. Is there anything I’m missing here? I couldn’t seem to find any definitive info on how the IRS confirms that a house is your primary residence.

You need to speak to a qualified CPA about this.  The Capital Gains exclusion is not cut and dry in this situation.  Regardless of the Section 121 capital gains exclusion (which is what you are referencing) you will have to pay the Depreciation Recapture on all depreciation you have claimed.  The capital gains exclusion doesn't apply to this and regardless of your tax bracket the Depreciation Recapture is a flat 25%.  Even if you never took any depreciation, for rental properties the Federal Government ALWAYS taxes you as if you had, so even if you never took depreciation, you will still have to pay Depreciation Recapture taxes going back to 2015.

There's variables at play to determine your specific amount but to illustrate it, for example, let's say your basis in the rental property is $275,000.  The government divides this by 27.5 years which in your case means $10,000 a year in depreciation.  that's 9 years at $10k in depreciation so $90k total.  You then pay 25% recapture tax on it, so you would owe in this example $22,500 in depreciation recapture tax ON TOP OF the applicable capital gains tax.

And the IRS knows which is your primary address because you have to report the specific addresses in question.

[Jaybo]

This is making me laugh how much of a nerve this topic seems to have hit. You’ll be horrified to know that I’ve also driven above the speed limit, had a drink before the legal age, and ran a business where I’ve expensed my personal phone bill!

I’ve paid well into 7-figures in federal taxes alone and think it’s ridiculous that the federal government can tax us on capital gains made on a personal home sale, on top of the property taxes we already pay, so excuse me for trying to find a way to avoid losing another $75,000 in taxes!

You’re talking about committing tax fraud as if it’s a minor thing; it’s not. This is the kind of thing that the Feds love to make an example of, and when you try to avoid paying taxes due to fraud, that’s the type of stuff that causes people to look at the FIRE community in a negative light.

And in case you weren’t aware, capital gains taxes gets paid to the federal government. Property taxes are paid to your state/county/municipality. Two completely different taxing authorities that have nothing to do with each other. That’s like saying you shouldn’t have to pay for your groceries at Albertson’s because you’ve always bought your groceries at Walmart.