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How will a divorce affect capital gain taxes on selling of properties?

by Nancy Kearson, CPA

I'm going through a divorce. Both my wife and I have a primary residence with $100,000 in equity and a rental property with $300,000 in equity. We are going to sell both and split the profits. Is there a way that I avoid capital gain taxes on these properties?

The tax laws treat capital gains from sales of residences and investment real properties differently.

Determining capital gain taxes for the sale of any real property begins with the sale proceeds. Then you deduct the costs of sale, costs of improvements, your original purchase price and the related acquisition costs.

If you are selling your residence and you have lived there for two of the last five years and you have owned the property for two of the last five years, each of you can take a $250,000 exclusion on your half of the net sale proceeds. Any amount remaining after the exclusion would be taxed for capital gain.

If you are selling a rental property, however, you will not have the benefit of the residence exclusion. In addition, you will need to recapture any depreciation previously deducted in calculating the capital gain.

If you transfer your interest in the rental property to your spouse, the transfer is recognized as a Section 1041 transfer of property between spouses incident to a divorce and is not a tax-triggering event. If your spouse sells the property after the transfer, however, your spouse will still be liable for capital gains and any recapture of depreciation.

In calculating your deductible expenses relevant to a capital gain on a real property sale, you may wish to consider including the specific fees you paid your attorneys and accountants for consultation and analysis regarding the sale of the property.

Going through a divorce can be tough enough without the added burden of tax dilemmas. Sit down with your CPA to discuss your situation and how best to handle your finances to reduce your overall taxes.

Nancy A. Kearson is a Los Angeles-based forensic CPA who is accredited in business valuation. She can be reached at (310) 785-9614(310) 785-9614.

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