Win Dream Home, Go Broke Paying Taxes

Art Woolf has an amusing post “A Taxing Gift” which shows how winning HGTV’s 2011 dream-home in Stowe, Vermont will actually leave you with a tax bill that will leave you $500,00 in the hole.

What the article doesn’t tell you is what it will cost you to win.  As a public service, Vermonttiger presents the numbers:

1.  Vermont Purchase and Use Tax on a $50,000 vehicle at 6% = $3,000

2.  Vermont Property Transfer Tax on a $1.5 million house at 1.25% = $18,750

3.  Annual Property taxes on a $1.5 million house in Stowe = $24,350

4.  U.S. Income Tax on $2.05 million (house + cash + car) at 2011 tax rates

a.  assume Bush tax cuts do not expire as per Obama compromise plan = $678,000

b.  assume Bush tax cuts expire =  $772,000

5.  Vermont income taxes = $187,400

The lucky winner of the house will pay about $1 million in taxes in 2011 on their good fortune.  With the $500,000 cash that is part of the winning package, the winner will only have to come up with an additional half million bucks.  Maybe they can rent out some of those extra beds to help pay the taxes.

To continue the story: you would need to sell the house to pay your taxes . . . but with the slow housing market you may not sell it in time (or at all) to pay your taxes . . . the house is taken by the IRS and auctioned for less than the taxes you owe . . . the IRS then garnishes your wages for the rest of the tax bill.  If that’s not Wealth Alchemy in motion I don’t know what is!

Update: 2009 HGTV Dream Home Winners Sell House . . . Thanks to Taxes

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  • am

    the house is not worth 2 million bucks. check out the other estates in Stowe and they have more house or more land for less money in the same area.

  • Scott

    am, per the rules of the contest, the house is valued at $1.5 million. The $2 million includes the $500,000 in cash plus the car. That’s the basis from which you will be liable for paying your federal and state income taxes.

    However, your point is well-taken and that if one were to win the house the first trip should be to the property assessors office to get it revalued in order to lower the property taxes. So point #3 is probably an over-estimate in this dismal real estate market.

    Also buried in the rules is that one can take $650,000 in cash in lieu of the home. To me that seems the better option unless you can afford $24,000 per year in property taxes plus heating/cooling and maintenance costs.

  • Jt

    I just cant see why you would want to screw over someone that wins the HGTV dream home. I would want someone to live in the home if i spent that much time and effort building it, decorating it, and making it the home it is today. HGTV or the government should step in and go ok we are going to base everything off your income. It should not be based off of the grand total in awards you get……

  • Scott

    Jt, well at least HGTV is giving $500,000 with the house which at least takes some of the tax sting away . . . though you still need to be independently wealthy before winning the house to actually take possession. In the early days of such give-aways, such as Extreme Makeover, folks who won the house had to sell it immediately because they couldn’t afford the taxes. That’s why so many of these contests now have cash with them and/or “in lieu” of cash options.

  • Jay Ray

    So what’s the point of entering the contest. You obviously don’t get to enjoy the house being that you HAVE to sell it in order to pay of taxes on a property that the value is inflated because a bunch of companies “Donated” their time and products so they can get tax breaks.

  • Scott

    Jay Ray, I would blame the government before blaming the contest . . . lots of folks ask themselves the same question every morning as they head to work knowing they get to keep only about half of what they earn (when counting federal, state and local taxes).

  • Leslie

    I don’t care, I want to win it anyway. I’ll figure out the detail later… maybe you could take in missionaries or exchange students, get it listed as a church or school, and not have to pay property taxes.

    My family has been making plans to move in, and what we’re going to do with all that space! The dreaming is the fun part anyway! and as close to winning as most of us will get.

    Dream On America!

  • Scott

    Leslie, your “can do” attitude is commendable; however, given the way the taxes work I think its best to take the “in lieu” of payment. With the $650,000 plus the $500,000 and car, you’ll get probably half that after-tax leaving you with around $575,000 free and clear.

    Then you could go find a house that is similar but in a place with lower home values and lower property taxes. In Stowe, you are competing with New Yorkers for real estate which inflates home prices. Take $575,000 elsewhere in Vermont and your purchasing power goes up. Heck, in some places you may be able to buy something similar outright, especially with the current high level of foreclosures.

  • Victoria

    The Dream House is worth 1.5million furnished. Property taxes are not based on furnishings, only house value.

  • Scott

    Victoria, good point, thanks for the clarification.

  • Todd

    Taxes are also based on FMV (fair market value) not what the retail would be. If you think about it and with the real estate market as it is its gonna be lower then what was listed above. Yes it will be high taxes. If you take the 500 grand and invest it can be done. If you are the winner go to a tax prof. and financial adviser they will help you make the best choice the house or the cash option. Either way you will be ahead of most of us. Good luck to all PEACE!

  • Victoria

    It is wonderful to dream…I dream, but I am also pragmatic. It is important that you know what you are getting into, or at least, whether you dream has any potential in reality. I have investigated the costs and potentials, and have concluded, that though I love the house, I must sell it if I win. Take the house for several months, while a realtor works magic, then sell it for a price that pays for taxes on all gifts and yields the greatest profit. I am a retired teacher and my husband is an attorney, and with all due diligence, I’ve concluded that living in the house is not an economically sound possibility if we are to retire comfortably. I still love the house and hope to win several wonderful months in it.

  • Scott

    Victoria, if want to live in the house for awhile I think you could gain additional tax benefits by staying for two years. The capital gains exclusion on your primary residence says you must live in the house for 2 out of the 5 most recent years. And frankly, in this market, it may take 2 years to sell it.

    However, since you won the house I don’t know on what basis any capital gains would be paid on? Would it be any gains over $0 (since it was free to you) or any gains over the original value of the house? Can anyone shed any light on this?

  • Liz

    I think the best option would be to keep the house and use it as a rental property. I was looking at comparable vacation rentals in the area and they run from $900-$1300 a night often requiring a minimum nights/months stay. You win the house in March, get a web designer friend to put up a website listing the home, as well as list it on expedia, jetsetter, local vacation rental sites, etc. by April, start renting the house at a hard to beat price ($800 a night, no minimum nights stay), you could easily have earned $100,000 by the end of the year, maybe $150,000 by end of tax season 2012, add that to the $500k cash prize, take into account that the house is probably FMV at closer to $1mil, so taxes on it, the money and the car are closer to $542k, get a tax lawyer, invest the money aggressively… I think you could squinch by. Then after you’ve paid the taxes on the prize, you’d have a property that would earn you at the very least $200k a year (after taxes, $100k a year). And you could still visit and take family and friends on annual trips too, so you could still enjoy it.

    I’m going to win it, keep it and rent it. 🙂

  • Scott

    Liz, you’ve certainly done your homework and the plan sounds doable. Yet, I still have to wonder if renting is legal or if it runs against zoning or some other legal constraint. This is Vermont after all which severely constrains development via Act 250. Does anyone know if this would be a problem?

  • Robert

    The house is beautiful but sadly if I would win it I wouldnt be able to keep it. So Im going with the Non Headache and taking the 650k plus the 500k and the car…then will continue my education and buy a home… Good Luck Everyone

  • Liz

    Scott, I’m not sure exactly about the legality of renting this property in particular, but I know for sure that vacation rentals are more common in this area than primary residence homes. So my guess would be that if it isn’t legal it’s because of some obscure law, which I wouldn’t put past Vermont, (or any governing body) so I’ll check into it. After a quick google search of Act 250 my understanding is that this is a required permit for subdivisions and land partitions, so I don’t know if this house would be subject to it. But you’ve brought up a good point, tax codes aside, who knows what weird laws could pop up to make my plan unworkable. In which case, I could do worse than take $1.2 million dollars in prize money, $780k after taxes. So, it would still be cool to win 🙂

    After some more thought about it this week I’ve realized that all of the costs involved in maintaining a vacation rental that is on the other side of the country from where I live would be considerable, but if I could rent it out, it would probably be better in the long term to rent it until the housing market has recovered and if renting and maintenance has drained me, then I’d sell it once I could get a decent price for it. I think it would be a waste of time to try to sell it in this market. If I didn’t feel like putting in the work to rent it, it would make more sense to take the money.

  • Victoria

    I have wondered how I could possibly live in the dream house affordably. HOA rules do not allow for B&B rentals. So, why not creatively separate the two floors so that the whole bottom floor could be rented while living in the top floor. Investing in a sink, dishwasher, stove along the barn door wall (move it to the ski poster wall) and build a pocket door closing off the two floors, the “Dream House Vacation Rental” would be highly desirable. In addition, put another driveway in, coming from 108, so that renters can enter the door(s) off the terrace. I figure the total cost would be about $75,000, at most, if the ski lodge membership dues are included. And the rental could be opened up for family visits. Renting the bottom floor that sleeps 12, with full indoor and outdoor kitchens, separate entrances, hot tub, laundry facilities, and lodge amenities, would yield enough money to pay taxes, lodge amenity dues, and payments on mortgage. Then, in about two years, when the market rebounds, sell. What a wonderful two years that would be!

  • Scott

    Liz, good point about not being close to manage the property. I live within 1.5 hours or so to Stowe in New Hampshire (though I actually have not been to Stowe) and would probably try to manage it from here. However, in your case you would be facing some steep management fees. I know they are generally 10 percent on annual rentals, so I would guess it is significantly higher for vacation homes since the leg work is so much more. Did your calculations factor in management fees?

  • Scott

    Victoria, that plan sounds like it could work, assuming you’re able to live in 1,500 sq. ft. . . . not for me with a growing family 🙂 And since it would be owner-occupied, you would still qualify for the capital gains exclusion in two years.

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  • Caroyn

    Would the VT income tax sited above be for VT resident or non-resident status? if resident, what would be the income tax for a non-resident on the gains from the sale or exchange of Vermont property?

  • Scott

    Caroyn, regardless of where you live, you will have to pay Vermont income taxes since the income is VT sourced. It’s that way everywhere in that if you have a job out-of-state, say live in NH but work in MA, you will pay income taxes in the state where you work. I believe the same rules apply to capital gains.

    However, you could do a 1031 exchange where you can exchange the property in VT for a similar valued property in another state. The 1031 exchange defers the capital gains bill. Ideally the transfer would be to a state with lower income tax rates, or no tax, on capital gains–such as NH or FL. Then you could sell the exchanged property capital gains tax free. Of course, see a tax lawyer for guidance.

  • Christine

    I believe the total prize package is 1.5 million. The house, cash, car, and furnishings in home. Therefore you have over-estimated the home by a considerable sum. This still calls for hefty taxes, but not as bad as first predicted.

  • Maggie

    Would you stil have to pay Vermont taxes on the money if you live in a different state and Hgtv issue the check/money from there? I know the house is covered under Vermont taxes but the 500,000 origin is from HGTV headquarters in Tenn.

  • Scott

    Christine, yes that has been pointed out before and it does lead to an overestimate of the transfer and property tax. However, the vast majority of taxes are the income taxes (federal and state) which are based on the $1.5 million figure.

  • Scott

    Maggie, I would seriously doubt it. The contest is being held in VT and likely falls under the same rules as working in VT but living in another state–you pay VT income taxes. For example, if you worked in VT, but lived in NY for a company based in CA (where the payroll checks are processed) you will still pay VT taxes. I would be surprised if that’s not the case with the $500k check.

  • Jeff Schwandt

    You’ve done a very good break-down of the taxes. I wonder two things:
    1. Is there a House of Prayer in Stowe, VT?
    2. Do the rules allow you to form a non-profit corporation to own and operate the home? Or, in the case of someone wanting to rent it out, to form an LLC and lower taxes.

  • Scott

    Jeff Schwandt, I have not personally been to Stowe VT yet though its on my “to do” list. So I can’t really answer No. 1. Does anyone else know?

    As for No. 2, you could probably do some or all of those options once you own the house–which means paying all the taxes stated above. I think your point is to come up with ways to lower the tax bill, but since the prize is awarded to an individual I don’t think they would fly in that regard.

  • Liam

    Why would you not just take out a 50% mortgage, use that money to pay taxes and keep spending money, then rent it out over December, January and February? The rental properties in Stowe are well beyond what Liz listed during the heart of the ski season. I rent a house up there every year. $3,000 per night would be completely reasonable for a property that could sleep 20… and is famous! $200,000 over those 3 months would be conservative (there are premiums over New Years and Christmas, as well as President’s Day). Use that to live the rest of the year and pay your mortgage, taxes, utilities while you live there the other 9 months of the year. Sounds great!