Some thirty plus years ago, when most of my children were out of the house, my then-wife and I looked into selling the five plus bedroom house in the Virginia suburbs of Washington, D.C., because the stress of my high-paying, higher-stress consulting job had literally landed me in the hospital, and we were hoping that a smaller dwelling with less maintenance would allow me to become a full-time writer.

It wasn’t possible. Housing prices had risen so fast that smaller decent houses were selling for almost as much as our larger dwelling would fetch, and a lower income couldn’t finance them. In the end, that was a great part of the reason we moved to New Hampshire.

I’ve recently discovered the same problem is recuring for several relatives, although the mechanics are slightly different, this time because of the concurrence of a change in the tax treatment of selling residences and the even higher rises in housing in a number of urban areas.

What happens when an older single widow or widower [that doesn’t apply to us, thankfully] or divorced individual has a house too big to handle, in which there’s a substantial amount of increased equity because of spiking real estate prices, and wants to downsize? In a number of suburban areas, it’s difficult, if not impossible, to downsize without huge penalties.

And for single parent families, the situation can be even worse. One professional woman bought a house ten years ago for $500,000, with a mortgage of $350,000. She had a solid income from her own business, but COVID effectively destroyed 80% of her income from her business. She’d like to sell the house and buy something smaller for her and her child because her income won’t cover the current mortgage payment on the house. The house will likely fetch slightly over a million dollars. But if she sells the house, she’ll realize a capital gain of $500,000, half of which is taxable, with a capital gains tax of roughly $40,000, and sales costs of $75,000 leaving her with approximately $525,000, which sounds like a lot, except even a 1,200-1,400 square foot townhouse anywhere within 20 miles will cost $700,000, and her income isn’t high enough to qualify for a mortgage to make up the difference. So she can’t afford to buy a house half the size of the one she owns, which she can no longer afford, and she has to pay capital gains tax when the “gain” in value is effectively illusory.

This situation can be even worse in places like Los Angeles, where 1,100 square foot former “tract” homes in many areas, not even high status locations, sell for over a million dollars, which is why so many former Californians are moving to Cedar City and elsewhere in Utah, where they’re driving up housing prices here.

And all the time, the government is collecting taxes on illusory capital gains.

12 thoughts on “Trapped”

  1. KTL says:

    Any chance the individual in the larger home can sublet some of the home? I’ve seen lots of older large homes in the Portland area get converted in this fashion as a means to increase housing density and allow for an original owner to stay in the property and gain some income.

    I suspect local codes and tax incentives (or disincentives) will come into play.

    1. Local codes and HOA rules preclude subletting, which is often the case.

  2. Postagoras says:

    I understand your point but I can’t think of a policy solution. There’s some support for low-income housing in desirable areas, but this is simply gentrification that is affecting middle-class folks rather than low income people.

    The law of supply and demand is pretty inescapable. There’s no land being created in desirable areas, and the dramatic wealth disparity in the USA means that land gets bid up out of reach of anyone but the very well-off. Developers also have no incentive to build starter homes or townhouses when they can build small palaces and sell them for millions.

    The trap you’re speaking of also affects retirees trying to downsize, and families who have outgrown their home. It’s difficult to move if you live in (or near) a desirable urban center.

  3. Dave says:

    In Australia, there is no CGT on your principal place of residence when you sell and in some places, incentives are being offered to help those who wish to downsize so that young families can find suitable housing.

    1. Tom says:

      In areas where worker-shortage exists or generally in Brisbane, Sydney, Adelaide and Perth?

      Canada seems to be trying to solve their shortage of skilled-workers in a similar manner, with immigration and easing the housing crunch.

  4. R. Hamilton says:

    Isn’t there a home sale exclusion for capital gains on a primary residence? It may not cover all of the capital gains at current prices, but it would help.

    If it doesn’t, arguably its limits ought to be adjusted. Or the principle should be. For investment properties, there’s a like-for-like arrangement, where you can defer some by buying another property with the proceeds of the sale of the first. That would do even more good for homes, given that people have occasions to move, whether for career, life changes, etc. That’s not about getting crazy rich, it’s about living without undue interference. And people spend enough money (that gets taxed somewhere along the line, whether as corporate income tax, sales tax, etc) whenever they move that it’s not as if government isn’t already getting a bite or two of the apple.

    But the problem with taxes is that they’re too high because SPENDING is too high. And even if one agrees in principle with the titles of most major programs, a lot of spending is buried in big vague programs that are mostly a generous helping of pork for everyone that supports them…or otherwise wasteful. And there will ALWAYS be more worthy or worthy sounding actions to take than resources to take them with, so priorities, offending some of some politician’s voters or donors no doubt, are necessary. The devil is in the details, controlled mostly by those who profit from them.

    1. Postagoras says:

      Yes, you can exclude 250K from CGT when you sell your primary home. Mr. Modesitt factored that into his arithmetic.

      As far as your comments about spending… we’ve heard this simplistic idea many times. It’s just ranting and hand-waving that doesn’t contribute one bit to governing a society.

      1. R. Hamilton says:

        Then the policy change needed would be either an upward inflation adjustment or a rule change to allow a greater amount when used toward the purchase of another primary residence.

        At some point, spending more does not contribute either.

        Wasteful spending or spending that is not actually for what it claims to be for is certainly a problem. Both are Congress not doing their job properly. Even if one supposes the present spending levels to be reasonable, voters are denied sufficient facts for informed voting if the spending is wasteful or incredibly obscure or directed to purposes not openly acknowledged (not counting a relatively small amount for black projects in the national defense area).

        And priorities still apply since everything worthwhile cannot be fully funded all at once. In some categories (health services and apparently government services – how far from the original vision is such a need for more government?), demand will ALWAYS exceed resources. The only balance possible is that not everyone gets what they want (or sometimes, even what they need).

        That is not ranting. Anyone can suggest lists of what to cut (not always eliminate entirely) if you like, start a letter-writing campaign, etc. Doubt it’d make much difference unless enough of BOTH parties were replaced to remind especially Congress of their duties.

        Painting the position of smaller government as useless ranting is itself not contributing to governance or society.

        1. KTL says:

          From an historical point spending is best viewed as a percent of gdp rather than an absolute budget value. The size of the US economy is so massively big relative to the early days of our country’s existence one shouldn’t bandy around terms characterizing small vs large government without context. I’ll provide two links below that show graphical representations of US spending as a percent of its GDP. Until the pandemic years, the ‘record’ was by far spending during WW2. Spending increased linearly in the post WW2 years till roughly the late 70s/early 80s. At that point US spending has flattened out to 31-36% of GDP (again with the exception of the pandemic years).


          and, this one comparing many nations. See US and UK as mirrors of each other.

          I’m not going to do the research now, but others are welcome to. Paul Krugman likely has covered this though. Taxation of the wealthy in the US (and large businesses) is nowhere near where it has been in the past. So, if one wants to address budget balancing, that would be an obvious place to look. Of course, military budgets certainly look tasty too.

          I agree that one has to prioritize. But would we rather live in the equivalent of the west or Russia?

          1. R. Hamilton says:

            Here, of course. So we should reduce everything but defense and border security and law enforcement, and intimidate the heck out of the assorted adversaries of the West. China is effectively engaging in warfare against us by supplying Mexican cartels with fentanyl precursors. Increased border security would reduce our body count (as would death penalties for dealers and smugglers and couriers of the most addictive substances…and I’d say serious consequences for addicts after some number of relapses after rehab within a given timeframe; addicts are a public burden, and a drain on most of their non-addict acquaintances insofar as they’ll manipulate, steal, and do pretty much anything to support their habit; maybe in that sense fentanyl is doing us a favor if it kills off a lot of addiction-prone people).

            There is some sense to the idea that reasonable spending levels relate to GDP. But still, massive debt that siphons off resources paying interest on it is not sensible. And neither is a level of taxation that would be a drag on the economy. At some point either spending has to be reduced, or at the very least, the growth of spending has to be reduced below the growth of revenue.

            A worse part is that government with lots of resources tends to want to use them to control everything…and that a lot of people would rather imagine themselves safe than free.

        2. Postagoras says:

          Mr. Hamilton, your position is that:
          – there is wasteful spending, totally undefined
          – liberals (and their policies) are despicable
          – both parties in Congress need to be replaced

          In the real world, you can’t wave a magic wand or have a genie grant your wishes. But that is your approach. Being upset about “wasteful spending” without identifying a budget plan is just echoing a marketing sound bite. Let us know when you have found a budget plan that you endorse. There are tons of them out there.

          Governing well is hard work and doesn’t start by deciding that the motives of half the country are despicable.

          You’re someone who cares about the issues- but if you want to solve these problems in the real world, you have to work with the people you have, and come up with compromises and smaller solutions that are possible.

  5. Chris says:

    I’ve never been a fan of the thresholds in the tax code that aren’t indexed the the appropriate inflation measure. For the $250k LTCG threshold for primary home sale it should have been indexed to housing inflation. If that had been done when it was implemented in 1997, it would now be a bit over $500k.

    Not having thresholds indexed to inflation is effectively a stealthy implementation of tax bracket creep.

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