Sale of residence

How will the sale of a home be taxed if it has been owned for less than one year?

All sellers should seek tax advice from a tax attorney or a CPA for the most recent information regarding capital gains taxes. However, the general rule is that if a home is a primary residence for at least two of the five years preceding its sale, up to $250,000 of the gain may be excluded by a single person and up to $500,000 of the gain may be excluded by married persons filing a joint return. If the home is sold after less than two years of ownership, it is generally subject to capital gains tax and, if it is owned for less than one year, it may be subject to short-term capital gains tax. There may be partial capital gains exclusions, however, if the property has been a primary residence and is being sold because of health reasons, change in place of employment, unforeseen circumstances or military duty. For more information about the exclusion of capital gains upon the sale of a personal residence, contact the Internal Revenue Service at www.irs.gov or 800-829-1040, or see the February 2005 issue of Wisconsin Real Estate Magazine, “IRS Home Sale Regulations,” online at www.wra.org/WREM/Feb05/IRS. 

Property tax prorations 

Are property taxes normally prorated based upon last year’s tax bill or is it legal for taxes to be prorated based on the most recent assessment? 

At closing, the real estate taxes for the year of the closing are divided between the seller and buyer in the manner stated in the offer to purchase. The seller is responsible for the property taxes from January 1 to the day prior to closing, and the buyer is responsible from the day of closing through the end of the calendar year. At closing the buyer receives the seller’s portion of the taxes through a credit on the closing statement. The buyer is then responsible to pay the entire tax bill when it becomes due at the end of the year.

The offer to purchase dictates that the tax proration will be based upon the prior year’s taxes, unless the parties specify another method for determining the tax proration in the offer to purchase. Both the applicable mill rate and assessment may be needed if another formula is used. Any proration language should be clearly drafted to avoid later confusion and disputes at or after closing. The parties may, for instance, agree that the tax proration will be based upon the most recent assessment and last year’s mill rate.

How should the buyer and seller prorate taxes on new construction?  

Local assessors are required by law to value property as of January 1 of each year. Prior to construction, the tax bill from the previous year is based upon the value of the vacant land. The tax bill in the year of closing is based upon the value of the property as of January 1, when the property may have still been vacant land, or it may have included the new building or a partially completed structure. Unless the closing is in December, the parties usually will not have a tax bill that is based upon the completed structure and the tax proration will be distorted and inequitable if it is based on the prior year’s vacant land tax bill.

The standard language in the residential offer to purchase prorates taxes on the previous year’s taxes. Unless the parties agree to an alternative proration method, the taxes may only be prorated based on the vacant land, which may result in a substantially large and unexpected tax payment for the buyer. Because the buyer has the obligation to pay the taxes as they come due, regardless of how the proration was determined in the offer to purchase, it is imperative that the broker working with the buyer educates the buyer on his options. Care must be taken to ensure that the contract’s language adequately addresses the parties’ intent regarding the tax proration and creates a definitive process to prorate the taxes. 

For additional information, see “Tax Proration for New Construction & Divided Parcels – Make Sure All Parties 
Pay Their Fair Share” in the June 2005 issue of Wisconsin Real Estate Magazine, online at www.wra.org/WREM/June05/TaxProration. 

Transfer tax exemptions 

Is the seller responsible for paying the transfer tax if the property is being transferred among the immediate family? 

Certain transactions are exempt from transfer tax fees pursuant to Wis. Stat. § 77.25. For example, there are exemptions from the transfer fee for a conveyance between parent and child, stepparent and stepchild, parent and son-in-law or parent and daughter-in-law for nominal or no consideration, or for a conveyance between husband and wife. Most transactions exempt from the fee are not, however, exempt from filing a return. Whether the specific transaction meets one of these or any other exemption should be determined by the parties. The parties may contact the Wisconsin Department of Revenue or their attorneys or tax advisors with any questions about transfer fee exemptions, determination of the consideration paid and computation of transfer return fees. The “Instructions for Wisconsin Real Estate Transfer Return” are available online at www.dor.state.wi.us/ust/pe-500a.pdf. Other transfer return information may be found at www.dor.state.wi.us/ust/retn.html.

Property tax reassessments

Is there a statute on the reassessment of property and a certain date by when this must be done? What does the seller need to disclose about a reassessment?  

The assessor must assess all real estate as of January 1 of each year, per Wis. stat. § 70.10. When the assessor arrives at an assessment that is different than the assessment for the previous year, the assessor is required by Wis. Stat. § 70.365 to notify the owner in writing. A written notice must be mailed at least 15 days before the meeting of the board of review or the board of assessors in first- and second-class cities and must contain the amount of the changed assessment and the time, date and place of the meeting of the local board of review or the board of assessors. The local assessor should be contacted if there are any questions about specific dates or deadlines. Chapter 70 of the Wisconsin Statutes may be reviewed at www.legis.state.wi.us/statutes/01Stat0070.pdf.

A seller becoming aware of a reassessment should disclose this on the real estate condition report. Item C 22 requires sellers to disclose both awareness of pending reassessments as well as notice of property tax increases other than normal annual increases. 

Multiple sellers 

The three sellers’ instructions were to issue separate checks for 25 percent, 5 percent, and 70 percent of the net proceeds. The listing broker complied with this request and issued 1099-S forms accordingly to each seller. The sellers are disputing the amounts on the 1099s. How should the 1099-S forms have been issued? 

A separate Form 1099-S should be filed for each seller. If a broker is responsible for preparation of the 1099s, the broker should request an allocation of the gross proceeds and make a reasonable effort to contact each seller to verify the allocation. However, the broker may rely on the unchallenged response of any seller, and need not make additional contacts with the other sellers after at least one complete allocation is received. 

The broker may refer the sellers to their tax advisor or accountant for advice on the distribution of proceeds, the resulting tax implications and their allocation of the proceeds. Instructions for completing Form 1099-S are available online at www.irs.gov/pub/irs-pdf/i1099s.pdf.

Reporting cash payments 

A buyer is bringing cash to the closing. Is there a maximum amount a broker can accept without reporting it to the IRS? 

The broker must report cash payments of over $10,000 received in a real estate transaction. With respect to real estate transactions, cash is defined as (1) coins and currency or (2) cashier’s checks, bank drafts, traveler’s checks and money orders with a face value of $10,000 or less, if the real estate licensee knows the buyer is trying to avoid reporting the transaction on Form 8300. Cashier’s checks, bank drafts, traveler’s checks or money orders with a face amount of more than $10,000 are not treated as cash because the bank issuing them must report the cash transaction on other forms. Cashier’s checks, bank drafts, traveler’s checks or money orders from the proceeds of a bank loan or from a personal real estate transaction (as opposed to transactions occurring in a real estate business) also are not treated as cash. 

For more information, a copy of Form 8300, and IRS Publication 1544, “Reporting Cash Payments of Over $10,000 Received in a Trade or Business,” may be obtained at ftp.fedworld.gov/pub/irs-pdf/p1544.pdf or by calling 
1-800-TAX-FORM (1-800-829-3676).