Manhattan Beach-Beach Cities: New 3.8% Investment tax.. are you ready?

For the last few years I have received calls and emails from clients panically questioning  the Medicare Real Estate Tax  chain emails that have been  floating around.   I would give them the link to the  Snoops   hoax site and tell them there was some truth and a lot of non-truth to the rumors... they just had to wait and see what The Supreme court would decide.   Many folks were hoping  the Supreme Court would invalidate the Health Care Act making the real estate tax part of it null... but that didn't quite happen.

At the end of  June the Supreme Court upheld a major part of the Health Care plan backed by the administration and passed by Congress.  The end result  is that beginning  January 1, 2013 there is an additional 3.8% tax on real estate sales and  other investment income as outlined in the Health Care bill.  It is not an automatic tax  and it will not apply to most people. in the country. 

That said,  in the coastal areas of California and our local Beach Cities,  there are likely to be a lot of people who are going to have to pay the additional tax on capital gains and dividends  from the sale of real estate and other income producing investments. 

While there are a number of aspects to the law one of the first tests as to whether you might be paying the new tax is your adjusted gross income... if you are single and your adjusted gross income is  over $200,000 or married with an adjusted gross income over $250,000 then you may well be subject to the tax whether you sell your home, an investment property or other type of investment income that is subject to capital gains.

 However just because you don't make those numbers doesn't mean you may not be subject to the tax.  Your Mom dies and leaves you her duplex on The Strand.  If she had  a low tax base and took depreciation which has to be recaptured it  might be a taxable event... even if you make less then the adjusted gross income that is stated in the plan. 

  As of today IRS has not yet issued guidelines on the new tax.  Until that happens a lot of information being circulated may be incorrect.  There are so many aspects to this law that you need to talk with your tax consultant or  financial adviser.  One item  up for grabs is how much  the tax will actually be.  The 3.8% is added to the long term capital gain tax currently at 15% which makes the tax just under 19%.  However the long term gain  tax may go up next year to 20% which would make the total tax a bit less than 24%. 

The possibility of this may have a number of investors scrambling to sell investments with large gains before the end of the year to keep the tax at just 15%.  The same is true for people who have owned their homes for a long time and have a lot of equity.  Owners who  have been thinking of of downsizing or changing locations may decide  now is a good time to sell so that any excess gains they realize are taxed at the lower amount.  

As an example if you and your spouse  make a combined adjusted gross income of $275,000 and you bought a home in Manhattan Beach 25 years ago for  $700,000 that  is now worth $3,000,000 paying 15% on a gain of over $2 million dollars might make more sense that paying 18.8% or 23.8% on that same amount.  Owners of investment properties who want to cash out instead of doing a 1031 exchange may also consider selling before the end of the year for the same reason. 

Finally taxpayers may find themselves facing the higher tax even if the don't sell any real estate as the tax applies to a number of other sources of income.  That's why is is called an Investment tax not a Real Estate tax.  There's a lot more to this tax than the chain emails discuss.