Email hoax regarding federal "sales tax" on sale of house

[Famspear]

Here’s a wild email hoax making the rounds right now:

Will You Ever Sell Your House?

Did you know that if you sell your house after 2012 you will pay a 3.8% sales tax on it?
That's $3,800 on a $100,000 home etc.

Wrong.

When did this happen? It's in the health care bill. Just thought you should know.

No, it’s not in the the health care bill, or in any other federal law. Just thought you should know.

The email goes on:

SALES TAX TO GO INTO EFFECT 2013 (Part of HC Bill)
REAL ESTATE SALES TAX

So, this is "change you can believe in"?

Under the new health care bill - did you know that all real estate transactions will be subject to a 3.8% Sales Tax? The bulk of these new taxes don't kick in until 2013 If you sell your $400,000 home, there will be a $15,200 tax. This bill is set to screw the retiring generation who often downsize their homes. Does this stuff make your November and 2012 vote more important?

Oh, you weren't aware this was in the obamacare bill? Guess what, you aren't alone. There are more than a few members of Congress that aren't aware of it either

http://www.gop.gov/blog/10/04/08/obamac ... taxes-home

Why am I sending you this? The same reason I hope you forward this to every single person in your address book because you can make a difference

No, it’s not in the health care bill, and it’s not in any other federal law. This email is completely erroneous.

Under Internal Revenue Code as amended by the Health Care act, for tax years that begin after December 31, 2012, there is a 3.8% Medicare contribution tax on “qualified unearned income” of certain high-income individuals. The tax will be imposed on the LESSER of (A) the individual’s net investment income for the tax year, OR (B) the amount of modified adjusted gross income (a term of art) in excess of $200,000 for an individual (or $250,000 on a married joint return, or $125,000 if married filing separately).

Apparently there is nothing in the law that changes the general rule that up to $250,000 of gain on sale of most qualifying residences (up to $500,000 of gain if married filing jointly) is excluded from gross income. Thus the gain on the sale of a qualifying residence, for most people, would not be included in “net investment income” or “modified adjusted gross income.”

Thus, generally, the 3.8% tax could affect the sale of a qualifying residence IF, and only to the extent that, the seller had a gain in excess of $250,000 (or in excess of $500,000 if a joint return) – and even then, the 3.8% tax would apply only if the individual met the net investment income/modified adjusted gross income rule cited above.

That’s not going to apply to very many people.

For example, a married couple buys a house for $100,000 in 1995, lives in it for years, and sells the residence in year 2013 for a cool $600,000 (I don’t know what fabulous neighborhood this would be, but bear with me). Under the law, the whopping $500,000 gain isn’t even part of gross income, or investment income, or modified adjusted gross income. So, in that situation, even if the couple had, say, $249,999 in net investment income (from some other source) PLUS the $500,000 gain from the sale of the house, they would still not owe any of the 3.8% Medicare contribution tax – and for that matter no income tax on the $500,000 gain, either (the $249,999 investment income would, naturally, be subject to federal income tax).

The example in the email – of applying a supposed federal “sales tax” to the gross proceeds of a sale was, of course, wildly erroneous.

[Pottapaug1938]

Well, the facts rarely have been allowed to get in the way of a good, scurrilous, hysterical political rant, whatever the political orientation of the ranter....

[VinnyZ]

That email started going around so after the health care law was passed.

I have a few friends that tend to believe everything that they read in emails like this. From the "Bill Clinton did nothing about terrorism" email from 10 years ago to the "Truths a Social Security" email after that and now this one.

[Quixote]

Well, the facts rarely have been allowed to get in the way of a good, scurrilous, hysterical political rant, whatever the political orientation of the ranter....

But this particular scurrilous, hysterical political rant is, in a slightly toned down form, repeated on the official website of Congressional Republicans. Responsible Republicans might want to rein in their mavericks.

[LaVidaRoja]

A friend of mine who is a realtor asked me about this one. I went to factcheck.org and printed her up the entire article. She said even some of the brokers locally were talking about it without finding out the truth.

[Famspear]

A friend of mine who is a realtor asked me about this one. I went to factcheck.org and printed her up the entire article. She said even some of the brokers locally were talking about it without finding out the truth.

I received the email from an attorney whom I highly respect. He had received it from someone else who received it from someone else who received it from a certified public accountant. It's definitely making the rounds right now. (By the way, I am an attorney and a certified public accountant.)

For those interested in seeing the actual statute, it is Internal Revenue Code section 1411, a new Code section, as enacted by section 1402 of the Health Care and Education Reconciliation Act of 2010, Public Law No. 111-152, 124 Stat. 1029, 1060 (March 30, 2010). This is the second of the two Acts comprising the entire health care legislation package -- the first Act being the Patient Protection and Affordable Care Act, Public Law No. 111-148, 124 Stat. 119 (March 23, 2010).

[Imalawman]

That’s not going to apply to very many people.

Well, I can think of a lot of farmers that could really get hit hard with this. Farmland around these parts has exploded. It's not uncommon for smalltime farmers to retire with a couple million from the sale of farmland.

I don't have time for research, but it was proposed at one time that the 3.8% would be applicable to all income once the $250K was reached. Did that get passed or does it only apply to income after the $250K mark?

Either way, I'd rather them just expand the brackets and rates rather than adopt this type of rate. I'm not for this particular provision - I think it muddies the waters and there could have been a more simple, straightforward solution.

[Famspear]

Here is the actual statute, to be effective for tax year 2013 and after:

[Internal Revenue Code] SEC. 1411. IMPOSITION OF TAX.

(a) IN GENERAL.—Except as provided in subsection (e)—

(1) APPLICATION TO INDIVIDUALS.—In the case of an individual, there is hereby imposed (in addition to any other tax imposed by this subtitle) for each taxable year a tax equal to 3.8 percent of the lesser of—

(A) net investment income for such taxable year, or

(B) the excess (if any) of—

(i) the modified adjusted gross income for such taxable year, over

(ii) the threshold amount.

(2) APPLICATION TO ESTATES AND TRUSTS.—In the case of an estate or trust, there is hereby imposed (in addition to any other tax imposed by this subtitle) for each taxable year a tax of 3.8 percent of the lesser of—

(A) the undistributed net investment income for such taxable year, or

(B) the excess (if any) of—

(i) the adjusted gross income (as defined in section 67(e)) for such taxable year, over

(ii) the dollar amount at which the highest tax bracket in section 1(e) begins for such taxable year.

(b) THRESHOLD AMOUNT.—For purposes of this chapter, the term ‘threshold amount’ means—

(1) in the case of a taxpayer making a joint return under section 6013 or a surviving spouse (as defined in section 2(a)), $250,000,

(2) in the case of a married taxpayer (as defined in section 7703) filing a separate return, 1⁄2 of the dollar amount determined under paragraph (1), and

(3) in any other case, $200,000.

(c) NET INVESTMENT INCOME.—For purposes of this chapter—

(1) IN GENERAL.—The term ‘net investment income’ means the excess (if any) of—

(A) the sum of—

(i) gross income from interest, dividends, annuities, royalties, and rents, other than such income which is derived in the ordinary course of a trade or business not described in paragraph (2),

(ii) other gross income derived from a trade or business described in paragraph (2), and

(iii) net gain (to the extent taken into account in computing taxable income) attributable to the disposition of property other than property held in a trade or business not described in paragraph (2), over

(B) the deductions allowed by this subtitle which are properly allocable to such gross income or net gain.

(2) TRADES AND BUSINESSES TO WHICH TAX APPLIES.—A trade or business is described in this paragraph if such trade or business is—

(A) a passive activity (within the meaning of section 469) with respect to the taxpayer, or

(B) a trade or business of trading in financial instruments or commodities (as defined in section 475(e)(2)).

(3) INCOME ON INVESTMENT OF WORKING CAPITAL SUBJECT TO TAX.—A rule similar to the rule of section 469(e)(1)(B) shall apply for purposes of this subsection.

(4) EXCEPTION FOR CERTAIN ACTIVE INTERESTS IN PARTNERSHIPS AND S CORPORATIONS.—In the case of a disposition of an interest in a partnership or S corporation—

(A) gain from such disposition shall be taken into account under clause (iii) of paragraph (1)(A) only to the extent of the net gain which would be so taken into account by the transferor if all property of the partnership or S corporation were sold for fair market value immediately before the disposition of such interest, and

(B) a rule similar to the rule of subparagraph (A) shall apply to a loss from such disposition.

(5) EXCEPTION FOR DISTRIBUTIONS FROM QUALIFIED PLANS.—The term ‘net investment income’ shall not include any distribution from a plan or arrangement described in section 401(a), 403(a), 403(b), 408, 408A, or 457(b).

(6) SPECIAL RULE.—Net investment income shall not include any item taken into account in determining self-employment income for such taxable year on which a tax is imposed by section 1401(b).

(d) MODIFIED ADJUSTED GROSS INCOME.—For purposes of this chapter, the term ‘modified adjusted gross income’ means adjusted gross income increased by the excess of—

(1) the amount excluded from gross income under section 911(a)(1), over

(2) the amount of any deductions (taken into account in computing adjusted gross income) or exclusions disallowed under section 911(d)(6) with respect to the amounts described in paragraph (1).

(e) NONAPPLICATION OF SECTION.—This section shall not apply to—

(1) a nonresident alien, or

(2) a trust all of the unexpired interests in which are devoted to one or more of the purposes described in section 170(c)(2)(B).

---Internal Revenue Code section 1411 (effective for tax years that begin after December 31, 2012), as enacted by section 1402 of the Health Care and Education Reconciliation Act of 2010, Public Law No. 111-152, 124 Stat. 1029, 1060 (March 30, 2010).

Later, I'll try to show an example with a sale of a farm for $2,000,000 (might be this weekend before I can get to it).

[Famspear]

Well, I can think of a lot of farmers that could really get hit hard with this. Farmland around these parts has exploded. It's not uncommon for smalltime farmers to retire with a couple million from the sale of farmland.

I don't have time for research, but it was proposed at one time that the 3.8% would be applicable to all income once the $250K was reached. Did that get passed or does it only apply to income after the $250K mark?

OK, here's a quick and dirty answer.

Assume sale of a farm by a married couple for $2,000,000. Assume zero adjusted basis (unlikely of course), and also assume that $500,000 personal residence exclusion amount for a joint return does not apply to any portion of the property.

So, if they file jointly, the gain subject to the tax is $1,750,000 ($2 million less the "threshold amount" of $250,000 under section 1411(b)(1)). The 3.8% tax on that is $66,500, leaving them with an after-tax cash figure of $1,933,500.

Of course, if you figure in whatever their adjusted basis in the property is, plus the exclusion for a personal residence on the farm (to the extent if any that it is applicable), that's going to result in a lower tax.

[Imalawman]

Well, I can think of a lot of farmers that could really get hit hard with this. Farmland around these parts has exploded. It's not uncommon for smalltime farmers to retire with a couple million from the sale of farmland.

I don't have time for research, but it was proposed at one time that the 3.8% would be applicable to all income once the $250K was reached. Did that get passed or does it only apply to income after the $250K mark?

OK, here's a quick and dirty answer.

Assume sale of a farm by a married couple for $2,000,000. Assume zero adjusted basis (unlikely of course), and also assume that $500,000 personal residence exclusion amount for a joint return does not apply to any portion of the property.

So, if they file jointly, the gain subject to the tax is $1,750,000 ($2 million less the "threshold amount" of $250,000 under section 1411(b)(1)). The 3.8% tax on that is $66,500, leaving them with an after-tax cash figure of $1,933,500.

You mean, after-tax as in after the 3.8%. You have to factor in a 15% tax (or more by 2013) as well. The taxes start to add up. Typically, there is no $500,000.00 exemption for the farmland, unless you carve out a homestead which is usually far less. I tend think that making someone pay an extra $66,500 is significant.

[Judge Roy Bean]

The tax is a tax is a tax is a tax that doesn't apply until someone sells their property - no matter how you spin it, it's an example of sneaking a horribly convoluted SALES TAX onto the sale of some people's property in a health-care bill.

Just because you try and categorize it as affecting "only" certain high net-worth individuals does not mean it isn't an utterly specious way of sticking it to the supposed rich to prop up a fantasy of making Medicare more sound.

[Judge Roy Bean]

...
No, it’s not in the health care bill, and it’s not in any other federal law. This email is completely erroneous.

Under Internal Revenue Code as amended by the Health Care act, ...

Hmmmmmmm. There's a dichotomy there. Which is it?

...
That’s not going to apply to very many people. ...

Then why was it enacted? Or was it? Since it wasn't in the health care bill or any other federal law? Or was it not under any other federal law but under the IRC as amended by the Health Care act?

Is anyone else confused?

[Famspear]

The tax is a tax is a tax is a tax that doesn't apply until someone sells their property - no matter how you spin it, it's an example of sneaking a horribly convoluted SALES TAX onto the sale of some people's property in a health-care bill.

I respectfully disagree to the following extent: First, a sales tax is generally a tax on the gross proceeds of a sale (not merely the gain). Second, the economic burden of a sales tax is imposed on the buyer (although withheld and collected by the seller). By contrast, an income tax is virtually never imposed on the gross proceeds, but is rather imposed only on the gain -- the net. And the economic burden of the income tax is imposed on the seller, not the buyer.

Therefore, I would argue that the economic substance -- as well as the legal form -- of the section 1411 tax is that it is an INCOME tax.

By the way, I also respectfully disagree with the argument that this is a sales tax because it "doesn't apply until someone sells their property". The regular federal income tax on dispositions of property (whether it be business property, investments, or whatever) also does not apply until "someone sells their property," but that doesn't make the income tax become a "sales tax."

I'm not used to disagreeing with JRB so much, but I also have to say that this tax, relatively speaking, is in my personal view not particularly "horribly convoluted" when compared with other taxes in the Internal Revenue Code. My sense in reading section 1411 is that it is fairly run-of-the-mill, actually.

I don't object to JRB's characterization of the "sneaky" way it was enacted.

Just because you try and categorize it as affecting "only" certain high net-worth individuals does not mean it isn't an utterly specious way of sticking it to the supposed rich to prop up a fantasy of making Medicare more sound.

I don't disagree with that.

[Famspear]

...
No, it’s not in the health care bill, and it’s not in any other federal law. This email is completely erroneous.

Under Internal Revenue Code as amended by the Health Care act, ...

Hmmmmmmm. There's a dichotomy there. Which is it?

...
That’s not going to apply to very many people. ...

Then why was it enacted? Or was it? Since it wasn't in the health care bill or any other federal law? Or was it not under any other federal law but under the IRC as amended by the Health Care act?

Is anyone else confused?

JRB, the email refers to a supposed federal sales tax on the gross proceeds of the sale of a house. There is no such thing -- no such "it." The supposed tax described by the email, besides being a fantasy, is a legal and mathematical impossibility under section 1411.

Section 1411 -- enacted by the Health Care act, does not impose any kind of tax on the gross proceeds of the sale of house (or on anything else). Please go back and read the hoax email. The email tries to give the false impression that you would pay a 3.8% tax on the GROSS PROCEEDS of the sale of a $400,000 house (and they're clearly and falsely implying that they mean your residence). That is completely false. There is NO SUCH tax in federal law (Health Care or anywhere else).

EDIT: Corrected my typo regarding the email -- the email falsely claims that under the Health Care law, if you sell a house for $400,000 in year 2013 or thereafter, you pay a 3.8% tax on the gross proceeds of $400,000, resulting in a tax of $15,200. That is utterly false.

[Famspear]

By the way, if you take the example in the hoax email, the results would be as follows.

Let's assume for the sake of argument that you had ZERO basis in the house, and that it was your qualifying residence.

If you're married filing jointly, the section 1411 tax on the $400,000 GAIN would be zero (since the section 121 exclusion amount is $500,000 for a qualifying residence).

Even if you're single, the section 1411 tax (assuming no other income of any kind) would still be zero. That is, the $400,000 sales price less zero basis gives you a gain of $400,000, less the $250,000 qualifying residence exclusion under section 121 would give you $150,000, which is less than the section 1411(b)(3) threshhold of $200,000, resulting in zero net investment income and therefore zero section 1411 tax. [corrected]

Of course, virtually no one has "zero basis" in a $400,000 residence.

Even if your cost basis were only $100,000 in the $400,000 house, the sale by a single individual would result in a section 1411 tax of zero [corrected]:

$400,000
less $100,000 basis
------
$300,000 gain
less $250,000 exclusion under sec 121
----------
$50,000, which is
less than the $200,000 threshold
----------
0
times 3.8%
--------
$0 tax [corrected]
=========

And under this scenario, with $100,000 basis and married filing jointly --- section 1411 tax is zero.

Now, let's say your cost basis is $200,000. At a sale at $400,000, that would still be doubling your money (before considering the tax). A single individual would pay zero regular federal income tax on this, and zero section 1411 tax. Married filing jointly, also zero tax.

EDIT: I corrected TWO of my examples. This is what I get for trying to do computations while I'm trying to write the explanation.

[Famspear]

You mean, after-tax as in after the 3.8%. You have to factor in a 15% tax (or more by 2013) as well. The taxes start to add up. Typically, there is no $500,000.00 exemption for the farmland, unless you carve out a homestead which is usually far less. I tend think that making someone pay an extra $66,500 is significant.

Yes, but at the risk of stating the obvious: the regular income tax (at 15% or whatever) is not what is at issue here. You would be paying that regardless of the Health Care act.

And I agree that $66,500 in tax here is significant.

But the email was not targeted at people selling a farm for $2 million. It was targeted (at least by implication) to strike a false fear in people selling a qualifying personal residence for about $400,000 or less. The email falsely implied that there would be a 3.8% federal sales tax of $15,200 on that $400,000. In reality the tax is an income tax -- and the 3.8% tax would be ZERO on $400,000 (assuming single or married filing joint status).

So, I suspect that the email was not the result of some honest mistake. I think whoever started the chain was either lying outright or at best recklessly failed to make even a minimal effort to check his/her facts before sending it out.

[Imalawman]

...
No, it’s not in the health care bill, and it’s not in any other federal law. This email is completely erroneous.

Under Internal Revenue Code as amended by the Health Care act, ...

Hmmmmmmm. There's a dichotomy there. Which is it?

...
That’s not going to apply to very many people. ...

Then why was it enacted? Or was it? Since it wasn't in the health care bill or any other federal law? Or was it not under any other federal law but under the IRC as amended by the Health Care act?

Is anyone else confused?

Sort of. My first reaction was that Famspear overstated his case somewhat. I think the email was alarmist, but it had an element of truth. I don't think it was WILDLY erroneous. They it started off I thought he was going to say that there is no such 3.8% tax. But then he added that there was indeed a 3.8% tax that would apply to the sale of property.

The details were wrong - it was not on the gross and is not a traditional "sales tax". However, inasmuch as its a tax upon the sale, it could be styled as such. It's moreso a sales tax than it was previously when the medicare tax would not have applied to the sale of a home - period.

So, while I find the email alarmist and over-the-top, I wouldn't say that its "wildly" erroneous. I do think that people should beware of this tax. If someone is contemplating a sale of farmland or something similar, then they should sell the year before, not the year of the tax.

I'm thinking more about this and how it could affect more and more people. Granted, it will affect higher incomes - no doubt. However, I have a client who made a modest amount of money during his life - decent pay to be sure. But he's not wealthy by traditional standards. In any event, he got paid in stock of, then, a small company and paid income and fica at the time. His basis though was next to nothing. He sold his stock after his retirement for a small fortune and a HUGE gain. Well, in 2013 - hello 3.8%! his retirement just took a pretty meaty hit. I guess he's rich, so screw 'em. Right?

[Cpt Banjo]

However, inasmuch as its a tax upon the sale, it could be styled as such. It's moreso a sales tax than it was previously when the medicare tax would not have applied to the sale of a home - period.

Not really. If there's no gain on the sale, there's no tax. It's not even a medicare tax -- it's really an increase in the tax rate on investment income for those making over $200K or $250K, as applicable.

[Famspear]

My first reaction was that Famspear overstated his case somewhat. I think the email was alarmist, but it had an element of truth. I don't think it was WILDLY erroneous. They it started off I thought he was going to say that there is no such 3.8% tax. But then he added that there was indeed a 3.8% tax that would apply to the sale of property.

I respectfully disagree. See below.

The details were wrong - it was not on the gross and is not a traditional "sales tax". However, inasmuch as its a tax upon the sale, it could be styled as such. It's moreso a sales tax than it was previously when the medicare tax would not have applied to the sale of a home - period.

I respectfully disagree. It's a tax on net investment income, which includes gains from dispositions of property as well as interest income, dividend income and rent income. I would argue that it's not meaningful to describe a federal income tax on dividends, rents, and interest as a "sales tax" merely because the same tax is also imposed on the gain on a sale of property. Under that reasoning, the "regular" federal income tax reported and paid on Form 1040 and Form 1120, etc., would be a "sales tax."

They didn't merely get the "details" wrong. They got everything wrong except the 3.8% tax rate. That tax rate is the only element of truth I see in the email. I would argue that claiming that the tax rate would be imposed on the $400,000 gross proceeds of a sale of real estate, resulting in a tax of $15,200, where the tax would not be imposed on the gross proceeds and would actually be zero, is indeed "wildly erroneous."

I'm thinking more about this and how it could affect more and more people. Granted, it will affect higher incomes - no doubt. However, I have a client who made a modest amount of money during his life - decent pay to be sure. But he's not wealthy by traditional standards. In any event, he got paid in stock of, then, a small company and paid income and fica at the time. His basis though was next to nothing. He sold his stock after his retirement for a small fortune and a HUGE gain. Well, in 2013 - hello 3.8%! his retirement just took a pretty meaty hit. I guess he's rich, so screw 'em. Right?

I believe most Americans would say that a person who realizes enough of a gain on a disposition or has enough interest, dividends, etc., to have enough net investment income to pay this tax is indeed wealthy. However, your point is well taken.

My rough definition of "wealthy" is "able to maintain my current lifestyle without having to work." And under that definition, I am not wealthy.