Mythbusting All real estate transactions subject to a 3.8% Sales Tax in 2013

A misleading e-mail doing the rounds came to my attention today. The e-mail stated that in an effort to fund Medicare all real estate transactions after 2012 will face a 3.8% sales tax. This is not the case. The actual 3.8% tax is on some capital gains and is narrow in scope. 

Really guys, aren't there enough tax increases out there already to preclude the need to spread false rumours and further worry already anxious home sellers?

Below is a clear explanation of the scope of the new law as written by past South Carolina Realtor President Jay Rinehart.

Now go forth and spread the truth.

There is a  3.8% medicaid surtax on investment income beginning in 2013 (including capital gains, rents, dividends, etc.). Note that Capital Gains do come from investment sale or transfer of real estate. The Medicaid Surtax is assessed on individuals earning over $200,000 individually or $250,000 as a couple. Thus, since real estate is a capital gains transaction and in the case of a sale of a principal residence for a gain of more than the exclusion amount ($250,000 individually or $500,000 for a married couple) then in addition to capital gains (which is already scheduled to go up next year to 20%) you could possibly have an additional medicaid surtax of 3.8% on top of that amount. This will only kick in for the income that is above the $200,000/$250,000 modified adjusted gross income. Now, the kicker is that if you are not in a principal residence transaction and capital gains hits you right away (i.e. investment or rental income or a sale of principal residence held for less than 2 years) then if you have capital gains it could likely be hit with the 3.8% medicaid surtax - again ONLY if you are above the $200,000/$250,000 modified adjusted gross income levels.

REAL WORLD EXAMPLES.

Example #1: Meet Bob and Susie, a couple who make $300,000 in income a year. They have a beautiful home that they sell for $2 million, this nets them $750,000 in profit (sale price of the home – commissions and fees – price they paid for the home = profit from the sale of the home). Because they are defined as “high earners” (making more than $250,000 a year for a married couple), they will be required to pay the Medicare tax.

Calculating the tax:
profit from the sale – capital gains threshold = taxable investment income
taxable investment income x 0.038 (3.8%) = tax due

Using the above formula, Bob and Susie would plug in these values:
profit from the sale: $750,000
capital gains threshold: $500,000 (married couple filing jointly)
taxable investment income: $750,000 – $500,000 = $250,000
tax due: $250,000 x 0.038 (3.8%) = $9,500

Example 2: Meet Frank and Cindy, a married couple whose combined income totals $200,000. They are selling their home for $400,000. Frank and Cindy are excluded from the 3.8% tax because they do not meet the “high earner” criteria (income of $250,000 or more).

Example 3: Frank (from Example 2) gets a promotion and begins making $50,000 more a year. This pushes Frank and Cindy’s combined income to $250,000, which now qualifies them as “high earners.” They finally sell their home for $400,000, but after paying their mortgage and the fees associated with a real estate transaction, they take home $50,000 as profit from the sale of their home. They are again excluded from the tax thanks to the capital gains threshold of $500,000 for married couples filing jointly (they would need to take home $500,000 or profit more from the sale of their home to be required to pay the Medicare tax in the health care bill.