One of the biggest questions we hear from clients is, “What kind of retirement lifestyle can I afford?” It’s not easy to forecast living expenses for next year, let alone to project the cost of a retirement period of 30 plus years.
By Jill Dobbs, CFP® – Vice President & Director of Private Banking
Many people dream of owning a mountain cabin or beach house. Wouldn’t it be nice to have a place for family to gather for vacation each year or a second home to spend winters once you retire? However, before you make that purchase there may be tax implications you should consider.
Obviously, two homes equal two property tax bills. Most people think of property tax as being fully deductible on your federal income tax return. However, in 2017 the Tax Cuts and Jobs Act limited the amount of property tax that is deductible. Under this tax reform, there is a $10,000 limit on the amount of property tax that can deducted. Although this sounds like a large amount, taxes in certain desirable areas of the country can be quite expensive so it’s something to keep in mind before making that purchase.
Deductible Income Tax Expenses
If you plan to purchase a second home and use it only for your own purpose then the tax deductions associated with the property will be similar to your primary residence. You may be able to deduct any mortgage interest and tax expense. However, if you plan to rent the home out to others there may be some added tax advantages. Renting your second home out for more than 14 days per year allows you to deduct utilities, maintenance and the cost of improvements to the property. Of course, you have to pay income tax on the amount of rent you collect, but this can oftentimes be offset by the additional deductions.
Capital Gains Tax
A final tax to consider before purchasing that second home is capital gains tax – the tax you pay when you sell the property. If you sell your primary residence, you typically don’t pay any capital gains tax. Single homeowners are able to exclude a gain of $250,000 on the sale of their home and the amount is $500,000 if you are married filing jointly. Although, because second homes are considered an investment, they are taxed at the current capital gains rate. Depending on your income, this could mean paying a tax as high as 20% on the profit from the sale of your vacation home. That amount could be even higher if you own the home for less than a year. When contemplating the sale of a second home it might be wise to make it your primary residence for a period of time. If you live there for two of the five years prior to the sale you may avoid paying the capital gains tax.
At Central Trust Company, we help our clients with tax planning, investments, retirement planning and estate planning. We have a number of CPAs, attorneys and Certified Financial PlannersTM on staff to help with all of your financial needs. Contact us today for a free second opinion.