When you buy a home, who should pay the real estate taxes the first year? Common sense tells us that the seller should pay the taxes from the beginning of the real estate tax year until the date of closing. The buyer should pay the real estate taxes due after closing. This way, the buyer and seller only pay the real estate taxes that accrued during the time they actually owned the property.
If the seller has already paid the taxes for the entire year, the buyer should be required to reimburse the seller for his or her prorated share. If none of the taxes have been paid, the seller should be charged his or her prorated share with the amount placed in escrow.
This is, in fact, how real estate tax payments are usually arranged when you buy or sell a home. The home sale contract should clearly set forth these requirements--requiring each party to pay his or her pro rata share of the tax.
When the buyer files his or her taxes for the year, he or she will be able to deduct the real estate taxes he or she paid as an itemized deduction. Indeed, for tax purposes, the IRS automatically treats the seller as having paid the property taxes up to the date of sale, and the buyer having paid the taxes due after the date of sale.
Example: Bill purchases a home from Sandra with a September 1 closing date. The real estate tax year in the area was the calendar year. The real estate tax due for the year was $900 and was paid by Sandra on August 1. The sales contract Bill and Sandra sign should pro-rate payment of these taxes based on the number of days each own the house during the year of sale. Bill will own the property for 122 days, which amounts to 33% of the year (366 days in a year ÷ 122 days = .3333). Bill should reimburse Sandra for 33% of the $900 property tax she paid--that is, Bill should pay $300.
Homeowners may deduct as an itemized personal deduction state and local real estate taxes they pay on their main home and vacation homes. Thus, both Bill and Sandra from the above example can deduct their real estate taxes as an itemized deduction the real estate taxes paid.
Now, here's the strange part. Even if the buyer or seller doesn't actually pay his or her pro rata share of the real estate taxes, he or she is still treated as having done so by the IRS. This means that the buyer gets a deduction for the prorated amount of real estate tax due after closing, and the seller gets the same deduction for the taxes due before closing--even if one or the other didn't actually pay them.
Example 1: Assume that the contract Bill and Sandra made didn't require Bill to reimburse Sandra for his $300 share of the $900 real estate taxes she paid, and Bill in fact does not do so. Bill may still deduct $300, and Sandra only $600.
Example 2: Assume that Sandra hadn't paid any real estate taxes when the sale closed and Bill pays them all after the closing. Bill still may only deduct his $300 pro rata share of the taxes and Sandra still gets a $900 deduction even though she didn't actually pay the taxes.
Either of these unfair outcomes can easily be avoided by making sure that the sales contract properly pro-rates the real estate taxes between the buyer and seller and requires both to pay their share.
For more on the subject, see IRS Publication 530, Tax Information for Homeowners.
Need a lawyer? Start here.