When you purchase a house or other real estate, you often pay a number of fees including real estate transfer tax to your state or local government. How much this tax is, and exactly what it's called, varies from state to state and city to city.
What doesn't vary from state to state is that you can't deduct a real estate transfer tax on your home from your federal income tax. You can, however, add it to the cost basis of the property, and it can offset a capital gain when you sell.
Real Estate Transfer Tax Deductibility
Transfer taxes by state or local governments are one of the costs involved in dealing in real estate. For example, Georgia property transfer tax is generally $1 per $1,000 of real estate value, while in New York City transfer taxes can range from 1.425 percent to 2.625 percent of a property's value. Some states, including New Mexico and Missouri, don't have these types of taxes at all.
Unlike ordinary property tax, you can't deduct real estate transfer tax from your income tax return, according to the Internal Revenue Service. What you can do, however, is include them in what's called the cost basis of the property, essentially meaning the amount you paid to acquire it.
When you sell your home, you're generally required to pay capital gains tax on the amount the home appreciated, or take a capital loss deduction if the property decreased in value. You find your capital gain by subtracting the cost basis from the sale price, so real estate transfer tax can ultimately decrease your income taxes when you sell your home.
In some cases, the seller of a home or other property might pay a real estate transfer tax rather than the buyer. In that case, the seller can similarly deduct the tax from the effective sale price in computing a capital gain or loss, so the tax can again reduce the seller's tax burden.
Rental Properties and Depreciation
The rules are slightly different if you are paying real estate transfer tax on a rental property rather than one that you live in. When you own a rental property, as with other items purchased for business, you are generally allowed to deduct the value of the property over its useful life, which for residential buildings is generally considered by the IRS to be 27.5 years. This process is called depreciation.
You use the cost basis of the property, minus the value of the land itself, for depreciation deduction purposes. Since real estate transfer taxes are included in the cost basis, they're effectively deducted over the life of the property.
Steven Melendez is an independent journalist with a background in technology and business. He has written for a variety of business publications including Fast Company, the Wall Street Journal, Innovation Leader and Ad Age. He was awarded the Knight Foundation scholarship to Northwestern University's Medill School of Journalism.