Capital Gains Tax

My elderly parents own two homes--a primary residence in PA and a vacation home in NJ. Both are in good condition and are paid for:

Dad is 82 and had a stroke on July 14th and is currently hospitalized in a rehab hospital in PA. He cannot walk and will most likely remain in rehab for another 5-6 weeks. It is unsure if he will be mobile when he is released from the hospital. Also, as a result of the stroke, he has some difficulty with memory and confusion, but is also quite lucid at times. Mom is 83 and although somewhat frail, is in relatively good health.

My sister and I are obtaining General Power of Attorney for both parents and are having those forms drawn up by our lawyer. My parents are applying to a retirement community and will need to sell one or both properties to make such a move.

I've e-mailed my lawyer with some questions but have as yet to hear from him due to him being away on vacation. I would like information on the following:

1. Since my parents are over 55, we are aware that they can sell their primary residence in PA and not pay taxes on it.

2. My mother is receiving some "pressure" from a neighbor of the vacation home to sell their vacation home to someone they (the neighbors) have chosen to buy it. The neighbors live in this vacation community year round and want to be the ones who decide the fate of my parents' property.

3. We believe the neighbors have their own best interests at heart and not my parents'. My sister's and my family, as well as my Dad, want to keep the vacation property and use it as an income-producing property to help defray the cost of care for my Dad once he moves into the retirement community (it will cost more to care for him there than it will my Mom since he is entering with a pre-existing condition). We know that if we sell the vacation property, my parents will have to pay a huge Capital Gains Tax.

4. Mom is siding with the neighbors because they are pressuring her to sell to their friend. My husband and I have offered to oversee the rental of the vacation property (we own our own rental property in PA) and my sister and brother-in-law have offered financial help in keeping the property in condition.

5. We feel the best scenario for my parents is to sell their primary residence first, move into the retirement community, and rent the vacation property now to get as much financial help out of it as possible. If we rent it for 12 weeks in the summer (June 1-August 31), based on the "going rate" for weekly rentals, my parents could make quite a bit, even after repairs/upkeep are deducted.

6. Which is better financially for my parents: Sell the primary residence now and the vacation house now and pay the large Capital Gains Tax OR sell the primary residence now and rent the vacation house now to gain more money and avoid the Capital Gains Tax?

First of all, the rule about sales of residence by people over 55 is no longer valid. However, under the new law, your parents can sell their primary residence and realize up to $500,000 gain tax free. (This rule is available to taxpayers of any age).

The best way to determine whether it is best for them to sell the vacation home or to rent it out is to actually work out the figures both ways. There is no short cut answer.

The vacation home has been appraised once at $389,000. My Mom claims it was done sometime this year. I have not seen the paperwork but supposedly my Mom has it in her possession. It has been recommended by another advisor in this forum to have other appraisals done. Based on asking prices of other properties in that area, the appraisal does seem a bit low.

As far as rental amounts, I have heard the "going rate" per week could be anywhere from $1500 for an apartment/hotel room to $5500 and up for a beachfront property. Based on that, we are figuring somewhere in the vicinity of $4000 per week. If any reader can give more solid information concerning accurate rental amounts, it would be appreciated. We know there is cost of upkeep, etc., but my sister is willing to help in that area plus my husband and I are willing to do some "free" labor in upkeep to help out.

My husband thinks that my parents can get tax breaks because there is depreciation due to the fact that it is a rental property and that they put a lot of money into its refurbishing about 10 years ago. I do not know the rate of the Capital Gains Tax so perhaps someone more knowledgeable can help out with that portion of the formula.

For the rules on rental income property, including the depreciation deduction, you can download for free IRS Publication 527, Residential Rental Property at [url]http://www.irs.ustreas.gov/forms_pubs/index.html.[/url]

The applicable long-term capital gains rates are 20% for taxpayers in the higher income tax brackets and 10% for taxpayers in the lower bracket. IRS Publication 544, Sales and Other Dispositions of Assets, which can also be downloaded free at the above site, discusses the capital gains rates and all other aspects of the sale of assets.

Since your planning involves substantial assets, I suggest that you hire a CPA to work up the schedules and advise you on this. The amount a CPA will charge for such an assignment is very little compared to the cost of a mistake in working it out.