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A quitclaim deed might be a way to pass your principal residence to another person without any tax consequences. However, it might also result in a higher tax bill than if you disposed of it in a different manner. To understand the tax consequences, it's necessary to be aware of two exclusions that might apply to you: the maximum exclusion on the sale of your principal residence and the lifetime gift and estate tax exclusion.
Lifetime Gift and Estate Tax Exclusion
Each person has a lifetime gift and estate tax exclusion. In 2014, it's $5.34 million if you're single and $10.68 million if you're married. When you make a taxable gift to someone, the first $14,000 is excluded from any tax. However, you must subtract the amount beyond that for any year from your lifetime exemption. When you die, the value of your estate that exceeds what's left of your lifetime exemption is taxable at as much as 40 percent. However, when one spouse dies, the other spouse can claim the unused portion of his lifetime exclusion and add it to her own.
Primary Residence Exclusion
When you sell your home and you've lived in it for two out of the past five years, you don't have to pay any capital gains tax on the first $250,000 of profit you make on the sale if you're single -- $500,000 if you're married. You can take the full amount of this exclusion once every two years.
There are circumstances under which you can use a quitclaim deed to transfer your principal residence to someone else without any income tax event. For example, if you quitclaim your principal residence to your niece and she lives in the house for at least two years before selling it, she pays capital gains tax on only the gain over $250,000. However, you must reduce your lifetime gift and estate tax exclusion by $14,000 less than the value of your home when you deed it to her.
Quitclaim Vs. Inheritance
If you wait until you die to transfer ownership of your home, the recipients might save on capital gains tax. For example, suppose you quitclaim your principal residence valued at $200,000 to your son and daughter. If the house is worth $300,000 when you die and your son and daughter sell the house, they must pay capital gains tax on the $100,000 gain. However, if they inherit the house when you die, their basis in the property would be its value when you died. If they sold it right away, they would likely pay little or no capital gains tax.
Quitclaim vs. Sale
Suppose you quitclaim your principal residence to your four children. Unless they live in the house for at least two years as their principal residence, they are responsible for capital gains tax on the appreciation when they sell the house. For tax purposes, it might be more advantageous for you to sell the home and give your children the proceeds, because you could exclude up to either $250,000 or $500,000 of the gain from capital gains tax.
Quitclaim to Your LLC
If you quitclaim your residence into your limited liability company, you might end up costing yourself thousands of dollars in income tax. An LLC can't exclude any gain on the sale of the residence, and you'll be responsible for capital gains tax on 100 percent of the profit. You might also lose out on an exemption -- such as a homestead exemption -- that some states grant individual homeowners but not LLCs. If you deduct home office expenses to run your LLC, you won't be able to deduct them if the LLC owns your home. You'll also need special insurance, and a home equity loan might have a higher interest rate.
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