According to the Chicago Tribune, about 10% of all US families own a vacation home, a campsite, or a plot of vacant land. Many spouses love getting away for a weekend at the cottage or cabin, but what happens in the event of a divorce? Dealing with these second homes may be more complex than many spouses realize, and there are a few considerations worth taking into account.
Considering Capital Gains Tax
Most states give spouses a capital gains exemption when they sell their homes as a direct result of their divorce. However, this generally applies only to principal residences – and not secondary vacation homes. As a result, capital gains tax may be quite significant for divorcing spouses who wish to sell their cottages and split the proceeds.
Of course, the exact capital gains tax depends on the various jurisdictions involved. Some States have much higher capital gains taxes than others. For example, California has a capital gains tax of over 13%, while the capital gains tax in Arizona never exceeds 2.5%.
Things become even more complicated when trying to figure out where this tax should be paid. Some spouses have encountered double-taxation issues when selling their cottages and cabins in a state outside of their primary residence. Some have vacation homes in completely different countries, such as Canada or Barbados.
Considering Inheritance Implications
When facing high capital gains taxes, some spouses may decide not to sell in the event of a divorce. They may prefer instead to “keep the property in the family,” allowing their children to enjoy the cottage or cabin for years to come. However, should also consider how this might affect the children’s inheritance.
In a Bloomberg article entitled “Can you kids afford to inherit the family cottage,” the risks of leaving high capital gains obligations to your children are made clear. Not only that, but the property taxes associated with these properties can become astronomical over the decades of a long marriage – making them totally unaffordable for younger generations.
If both parents agree that the children should eventually inherit the cottage, they may decide to immediately transfer ownership before the divorce. This would potentially eliminate capital gains taxes while still allowing spouses to take the cottage off their hands.
Airbnb Considerations
Some spouses also use cottages to earn Airbnb income. Some of these rental businesses have become immensely successful, and spouses may wish to maintain this mostly passive income. Co-owning the cottage could be a viable option, and both spouses may continue to draw income from the property without ever selling it.
Spouses might also decide to turn the cottage into an Airbnb despite never having done so in the past. This could alleviate some of the financial pressures faced by both spouses after a divorce. When creating an Airbnb, spouses should consider various state-specific regulations, as various jurisdictions have taken drastically different stances on Airbnb.
For example, some jurisdictions in California have disincentivized Airbnbs to such a great extent that almost no one bothers to engage in this business anymore.
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