Record Keeping for Your Personal Residence

When the federal government raised the primary residence exemption to $250,000 or $500,000 several years ago, many people thought they didn't need to continue to maintain any records of the improvements they did to their home. I recently came across an example where if this person had followed that advice that they would have had a tax liability. Let me set the stage.
The Smiths bought a house intending it to be their last house… the house they would die in. Like many people who buy a brand-new home, the Smiths had to add many improvements that were not part of the builder's package. Here's just a short list of some of those improvements: underground sprinkler system, shrubbery, trees, fencing around the perimeter of the lot, duet blinds in all the windows, additional window coverings, towel bars, built-in shelving in the garage, electric heat tape for the gutters and downspouts, extra electric outlets on the back patio, extra outlets in the soffits around the house for Christmas decorations, and a few other items. I even bought a new Maytag washer and dryer that they ended up leaving with the house when they sold it. Not one of those items seems like very much money and probably most people wouldn't even have kept the receipt. As it turns out, because of a desire to live closer to the grandkids, the Smith's needed to move before they had lived in that home as their primary residence for two years. When the Smiths sold their house they made a profit and because they had lived in it less than two years, they figured they would just have to pay Uncle Sam on the capital gain. The $500,000 rule would not apply at all because they had not lived there long enough. Real estate market being what it has been lately… fairly flat… the Smiths only saw a profit of about $45,000.
Here is where recordkeeping really helped them out. You see Mrs. Smith saved every single receipt and put it in a file entitled “Addition to Basis”. Every one of those above projects were added to the cost basis of their house. So in this example the Smiths paid $600,000 for their home and added to that were her receipts totaling a little over $40,000. The house sold for $675,000 and after deducting the cost of selling (Real Estate Commission, title insurance, attorney fees, etc.) they actually were able to show a slight loss so that no taxes were due at all. This is just one good example of why you too, need a file entitled “Additions to Basis” in your home office filing cabinet.
Another equally good example of why you still should maintain records is the example of the Joneses. They bought a home and lived there for five years as their primary residence. Their plan was different, however. They intended to turn this house into a rental property and buy another home as their primary residence. For illustration purposes, let's just say that the Joneses did the very same improvements that the Smiths did. When the Joneses convert the home to a rental property they will be able to add that $40,000+ of improvements to their basis and then begin taking a depreciation write-off. If they did not have those records, then they would have lost the benefit of that $40,000 of improvements.
My daddy always used to quote to me “The best laid plans of mice and men often go asunder.” And I think all of us have seen that in our lives. Having been in real estate for 34 years, I see it all the time in other people's lives. Their plans change; someone's health changes; the property they thought would be their dream, didn't turn out to be that at all. The lesson to be learned is that everybody still needs to keep a file with their receipts for all of the improvements they've made to their properties. For me, I use QuickBooks to record all of my checks and even credit card charges. Under the category of Housing I have a subcategory entitles additions to basis. If I lived in the house for 15 years, it would only take me one minute to run a report that itemized every improvement I made to that property. If you own several properties, each of those properties should have their own subcategory regarding additions to basis.
With the changes to the tax laws that all of us are expecting due to the new administration, it is ever more reason to be proactive and keep track of your expenses even more diligently. I will try to blog about other changes in the tax law that pertains to home ownership as I see those items come forward. Clearly a blog is no replacement for good tax advice so I encourage you to find a good CPA to assist you. If you're ready to look at real estate in the Durango area click on the link to go to my website. Durango Real Estate