Have you recently inherited a home, or are about to, and don’t know what your legal obligations are? It’s a common situation and one that can get very complicated, especially if the home you’re to inherit is in a different state where you’re even less familiar with the rules.
Below, we’ll cover the basics of how to sell an inherited house in California, but you should still seek legal advice from a specialized attorney.
Let’s start with taxation.
Taxation and Financial Obligations
California residents aren’t required to file state inheritance taxes. These were abolished in the early 1980s. California also doesn’t charge estate tax. However, that doesn’t mean inheriting a home is tax-free. As the person who has inherited their estate, you’ll need to file their final tax returns (both federal and state), as well as a federal estate tax return (only applicable on estates worth more than a certain value, so make sure to check) and a federal estate income tax return. Each of these tax returns will have a different deadline, and missing them could result in a fine. Make sure you hit all your tax obligations.
If there are still mortgage payments outstanding on the property, or other debts that were accrued by the deceased person, you’ll need to pay these. You should also find out how much, if any, of the mortgage is left to be paid, as this will impact how much money you make from the sale. You’ll also need to pay any other outstanding bills, or use the proceeds from the sale to do so.
Capital Gains Tax
If and when you sell your inherited property, you’ll be liable to pay a tax called capital gains tax. Inherited properties also usually don’t qualify for the home sale tax exclusion, which allows single homeowners to make up to $250,000 from a house sale tax-free ($500,000 for married couples). This is because most people selling inherited homes haven’t lived in the home and don’t plan to. If you would like to qualify for the exclusion, you must live in the house for at least two years before you sell.
Capital gains tax on inherited properties tends to be small, as they are usually calculated on a ‘stepped up’ tax basis. Usually, when selling a home, tax paid on the proceeds is calculated on the purchase price of the home, plus the value of any renovations you’ve made while living there.
For inherited homes, any appreciation in the house’s value since it was purchased by the previous owner and their death won’t be taxed, so even if the house is worth ten times the value now as it was when the deceased bought it, you won’t pay tax on the difference. The only capital gains tax you’ll pay is if the house is sold for more than its market value, or if you choose to live in the property before selling, and the property increases in value while you’re the owner.
You must report all proceeds from the sale of the home to the IRS as taxable income. They will then calculate for you the total amount on which tax is due and the amount of tax due. Even if you think you won’t have to pay any tax at all, you must report the income to avoid running into problems.
Selling an inherited property
Once you’ve gotten to grips with all of your financial obligations, and have an idea of how much money you can expect to make from the sale, you need to get the house ready to be sold. As the homeowner, you’ll be responsible for any costs incurred during this process.
Clearing out the home of someone who has died, especially if that person was a loved one, can be very challenging. Make sure you have someone there to support you if you need it. Keep hold of any treasured mementos or items with sentimental value, and then you can donate, sell, or throw away anything that’s not needed. Anything new, you can sell with the house if you prefer.
Once the house is in a saleable condition, you can only sell once the house has completed probate (the ‘proving’ of the will). If the house is worth less than $150,000, there’s a simpler probate process. When probate is completed, you can sell the house.
All real estate transactions have the potential to be drawn-out and complicated, but there are potential pitfalls specific to selling an inherited home that you need to be aware of.
If you’re the inheritor of the estate, but not the executor of the will, it may take longer to take possession of the property than you expect. Executors can keep estates tied up in probate for years. The home will eventually come into your possession, but you might be waiting for a while.
You might find that the property is ‘underwater’; i.e., there’s more debt owed on the property than it’s worth. In these cases, you can choose not to take possession of the property at all. You can also do this if you’re concerned about the structural integrity of the building.
It’s also possible, especially if your loved one was older and had lived in the home for a long time, that the house you’re inheriting needs extensive renovation. You need to consider the cost of these repairs, and whether you want to undertake them before selling or sell the house more cheaply.
Inheriting property also comes with the unique possibility that you’ll share the inheritance with another person – a sibling or other relative. Deciding who gets what, and who does what, can be a fraught and frustrating process. Make sure you communicate your thoughts clearly and concisely. If the situation becomes difficult, a mediator may be able to help.
As with any legal or financial process, selling an inherited home is easier when you have an expert on hand to help. Speak to specialist advisors before you start.