Q: Should I downgrade to a less spacious home to save capital gains taxes?

My home is valued at $700,000 and I’ve lived here over 2 years. My husband has purchased and renovated another home in the area with a market price of $650,000. If he sells the $650,000 house, we will owe capital gains taxes — let’s assume the profit will be about $100,000.

If we sell the $700,000 home, we will pocket less money, but keep more of it.

Should we move to a lesser home to avoid capital gains? The pros of the renovated home are that it is walking distance to the park and the kids’ school, and has a more private yard. Unfortunately, the house does not have custom features of our current home, like 9 foot ceilings and a mudroom.

A: Since I don’t know exactly how much profit you would have if you sold the $700,000 property, it’s difficult to know which is the better move for you. Part of the answer has to do with knowing which house has the bigger profit potential. While you might want to lock in your $100,000 profit by selling the house priced at $650,000, what would you do if you knew that house was going to appreciate at 10 percent per year over the next couple of years while the $700,000 house stayed at the price it’s at?

With what I do know about your situation, here’s what I’d do: I’d sell the more expensive home and pocket the profits tax-free. Then, move into the less expensive home and live there until at least 2 more years have passed. The nice thing about this plan is you’ll then be in a position to either sell the second home and pocket even more profits tax-free, or stay until the children have outgrown the neighborhood school.

Let’s quickly go over what current tax law says about selling your primary residence: As long as you have lived in a home for at least 24 months, you can sell and pocket up to $250,000 in capital gains (up to $500,000 if you’re married) tax free. You can do this once every 24 months.

Capital gains are currently taxed at a maximum of 15 percent. On $100,000 in profits, you’d pay $15,000. I think living with slightly lower ceilings and no mudroom for a couple of years is worth $15,000 in savings, don’t you?

It sounds as though you and your husband have hit on a nice way of expanding your annual income. I’d encourage you to pocket even more of the profits by selling your primary residence now, while you still live there.

May 28, 2004.