DEAR BOB: Over the last five years I have lived in three primary homes. My summer home at Cape Cod, Mass., has appreciated about 300 percent in market value. I have lived there more than 24 of the last 60 months (summers plus months between sale and purchase of my other homes). Because of knee and hip problems, my doctor recommends selling it due to the many steps. But my accountant says the IRS won’t approve the $250,000 principal residence sale tax exemption because I never filed my income taxes from that address. What do you advise? – Walt S.

DEAR WALT: Your tax issue is whether the Cape Cod home was your principal residence during the 24 months you lived in it within the last 60 months before its sale.

Purchase Bob Bruss reports online.

The occupancy need not be continuous, nor must the home be your principal residence at the time of its sale (it could be vacant, or even a rental).

The latest IRS regulations state: “In addition to the taxpayer’s use of the property, relevant factors in determining a taxpayer’s principal residence include, but are not limited to the (1) taxpayer’s place of employment; (2) principal place of abode of the taxpayer’s family members; (3) address listed on the taxpayer’s federal and state income tax returns and driver’s license; (4) location of the taxpayer’s banks; and (5) location of religious organizations and recreational clubs with which the taxpayer is affiliated.”

Your health reason for selling is irrelevant. However, it would be important if you sought a partial Internal Revenue Code 121 exemption after less than 24 months of ownership and occupancy.

The only court decision on this issue is the odd U.S. District Court ruling in Guinan v. U.S., 2003-1 USTC 50475. The taxpayers paid $45,009 capital gain tax on the sale of a Wisconsin home where they spent the majority of their time compared to their other two homes. When they sued the IRS for a refund, the judge denied it primarily because the taxpayers didn’t file their income tax returns from Wisconsin.

If you decide your home sale is fully tax-free because your capital gain is below $250,000 (or $500,000 if you file a joint tax return in the year of the sale) you need not even report the sale on your tax returns.

However, if your capital gain exceeds the exemption, the sale is reported on Schedule D where your maximum 15 percent federal capital gain tax is calculated. If you feel entitled to the exemption, then it is up to the IRS to deny your exemption.

REVERSE MORTGAGE FEES SEEM HIGH IF YOU DON’T LIVE VERY LONG

DEAR BOB: My mom and dad, who are both in their seventies, are considering a reverse mortgage to increase their monthly income and to pay for a new roof on their house. We looked at the FHA, Fannie Mae, and Financial Freedom Plan reverse mortgages. They each have their pros and cons. But the up-front fees for the Financial Freedom Plan, which has the highest mortgage limit, are about $12,000, which seems high. FHA has the lowest fees, but the lowest limit. Compared to a home equity loan, is a reverse mortgage better or worse? – Sharrie E.

DEAR SHARRIE: If your parents plan to stay in their home at least five years, a reverse mortgage can be a very good deal. But the obvious big disadvantage of a home equity loan is the monthly payment requirement. If your parents are short of income now, how can they afford home equity loan monthly payments?

But a reverse mortgage never need be repaid until the last co-borrower sells the home, moves out, or dies. Then the home is sold, the reverse mortgage is paid off, and the remaining equity goes to the heirs.

Yes, the up-front reverse mortgage fees seem high. I suggest dividing that fee by the life expectancy of the youngest co-borrower. Let’s say it is 10 years. Now a $1,200 annual loan fee to receive many times that amount tax-free each year seems reasonable. More details are in my special report, “Secrets pf Tax-Free Reverse Mortgage Income for Senior Citizen Homeowners,” available for $4 from Robert Bruss, 251 Park Road, Burlingame, CA 94010 or by credit card at 1-800-736-1736 or instant Internet download at www.bobbruss.com.

ARE INTEREST-ONLY HOME MORTGAGES A GOOD DEAL?

DEAR BOB: My wife and I plan to buy our first home, probably a townhouse, in early 2005. She is expecting our first child in May so “time is of the essence.” As you suggest, we got pre-approved for a mortgage. The lender showed us how we can qualify for a larger mortgage if we take an “interest-only” mortgage. Also, the minimal monthly payment will help with our budget. But my wife doesn’t like the idea of not building any equity from paying down the mortgage balance. Are these loans a “good deal?” – Lyle R.

DEAR LYLE: Unless you plan to stay in your first home “forever,” an interest-only mortgage can be an especially “good deal” for you. The reason is your monthly payment will be fully tax-deductible.

If you expect to move within, say, 10 years, an amortized mortgage wouldn’t provide much mortgage balance pay down. But your amortized monthly payment would be higher than for an interest-only mortgage.

Most of your home equity build-up will come from market value appreciation, not from paying down the mortgage balance. Keeping your monthly payment as low as possible makes interest-only mortgages financially attractive.

DON’T GIFT REALTY BEFORE YOU DIE WITHOUT A GOOD REASON

DEAR BOB: I’ve been in declining health the last five years. My son has been paying my home mortgage and taxes the last few years. His tax adviser suggests I add his name to my title so he can claim the tax deductions. That’s fine with me. But then I read your advice to someone else “It is usually better to inherit property than to receive it as a gift before death.” If I just give him a quit claim deed now, as he is my sole heir, would that be a good idea? – Naomi R.

DEAR NAOMI: No. It’s fine if you add your son to your title, perhaps as joint tenants with right of survivorship, so he can claim the tax deductions and for convenience when you pass on to avoid probate. Upon your death, in most states all he need do as a surviving joint tenant is record a certified copy of the death certificate and an affidavit of survivorship.

However, if you quit claim the entire property to your son now, that means he takes over your probably very low cost basis. The result, when he decides to sell, is he will likely owe a large capital gain tax.

However, if he instead inherits the house from you, then he gets a new “stepped-up basis” to the market value on the date of your death. This is much better for him and you still own your home until you pass on. For full details, please consult your tax adviser.

HOW TO PREVENT LOSING TITLE BY ADVERSE POSSESSION

DEAR BOB: I enjoyed your recent explanation of how to take title to someone else’s property by adverse possession. But my question is how can I prevent a person from taking title to my property by adverse possession, especially if my property cannot be easily checked to see what might be happening? – Mary J.

DEAR MARY: Just to review, gaining title by adverse possession requires open, notorious (obvious), hostile (without permission), continuous, and exclusive possession of another’s property for the required number of years in that state. Many states also require the payment of the property taxes.

The minimum adverse possession occupancy time ranges from a low of five years (in California) up to 20 and even 30 years in some states. To prevent someone gaining title to your property by adverse possession, you or a trusted friend should inspect your property every few years to be sure someone isn’t “squatting” on your land. For full details, please consult a real estate attorney in the state where your property is located.

WHAT INSURANCE IS NEEDED DURING HOME CONSTRUCTION?

DEAR BOB: If I build a house, what type of insurance do I need during construction? – David V.

DEAR DAVID: I presume you plan to build a home on land you own and that you won’t be constructing a home for somebody else on their land. The exact answer also depends if you will be doing the work yourself and hiring workers, or if you plan to hire a general contractor who will then hire workers and sub-contractors.

At a minimum you will need liability insurance plus workers’ compensation insurance for the hired workers (except employees of the general contractor and sub-contractors). Also, you will need fire insurance in case the house burns during construction. Please consult one or more insurance agents for full details. Your construction lender will also have minimum insurance requirements.

The new Robert Bruss special report, “How the New Tax-Deferred Realty Exchange Rules Can Make You Wealthy,” is now available for $4 from Robert Bruss, 251 Park Road, Burlingame, CA 94010 or by credit card at 1-800-736-1736 or instant Internet download at www.bobbruss.com. Questions for this column are welcome at either address.

(For more information on Bob Bruss publications, visit his
Real Estate Center
).

***

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