A:

The answer to this question really depends on the type of legal entity your business is operated through. Businesses may be operated as any of the following legal entities:

Each legal entity has unique tax advantages and disadvantages, depending upon the nature of the business. Let's answer this question, legal entity by legal entity.

C Corporation
There would be no long-term capital gains tax on the sale, but there would be regular corporate income tax on the sale if there were a gain realized on the sale. The reason for this is that C corporations do not have any preferential capital gains tax rates available to them. Generally, all of the income recognized by a business operating through a traditional C corporation is taxed at the corporate income tax rates that range from 15% up to 35%, depending upon the level of taxable income. Any asset sale by a corporation to a shareholder would be taxed if there were a gain on the sale, this includes a house. Furthermore, the sales price must represent what is called an arm's length price. Arm's length means it represents what an independent third party would pay for the home. If the sales price of the home was determined to be not at arm's length by the IRS, then there are a host of distribution-related issues that could apply, and which are beyond the scope of this article.

S Corporation
The sale of a house by an S corporation to one of its shareholders would be treated as a long-term capital gain (if the corporation owned the house for more than one year). This gain would be passed through to the respective shareholders and taxed on their individual income tax returns. An S corporation generally does not pay any income tax. All items of income and loss are passed through to the individual shareholders who must report these income or loss items on their individual income tax returns. There are other issues, such as depreciation recapture if the house were used for a business purpose, but that is beyond the scope of this article.

Single-Member Limited Liability Company ("LLC") and Sole Proprietorship
Single-member LLCs and sole proprietorships are taxed the same way at the federal level. If the house were used for business purposes and was owned by an LLC (title was in the name of the LLC) then the gain on the sale would have to be reported by the owner of the LLC on his or her individual income tax return. If the house were owned more than one year by the LLC then the owner would treat the gain as a long-term capital gain. With respect to a sole proprietorship, the house can only be titled in the name of the individual who operated the sole proprietorship. Since title does not change, there is no sale and no capital gains issue until the individual sells the house to an independent third party. Depreciation recapture rules would apply if the house were used by the business whether an LLC or sole proprietorship, but that is beyond the scope of this article.

Limited Liability Company with Multiple Owners, Taxed as a Corporation
The rules that apply to a corporation would be identical in this scenario, meaning any long-term capital gain would be taxed only within the LLC.

Limited Liability Company with Multiple Owners, Taxed as a Partnership and General Partnership
Partnerships are similar to S corporations in that the individual items of income and loss are not taxed within the partnership, but are passed through to the individual partners and taxed on their individual income tax returns. Thus, any sale of a house by the partnership would be taxable to the individual partners not the partnership. If the partnership owned the house for more than one year then the gain would be eligible for the long-term capital gains tax rate, which is currently 15%.

The Bottom Line
The real troublesome issue with respect to a house owned by a business is the loss of the home sale exclusion. The home sale exclusion allows individuals who own a home as their primary residence to exclude up to $500,000 of the gain from taxation ($250,000 for individuals whose filing status is single). When the house is owned by a business this home sale exclusion is lost, which is a significant tax consideration. As in any tax transaction, it goes without saying that individuals need to seek the advice of a CPA or Attorney.

SEE: Should You Incorporate Your Business?

RELATED FAQS
  1. Do companies have to pay back their paid-up capital?

    Learn what business structures are available to entrepreneurs, and learn the process for making the most appropriate selection ... Read Answer >>
  2. What's the difference between a financial plan and a financial forecast?

    Learn which types of business structures present the greatest amount of risk through unlimited liability to the owner or ... Read Answer >>
  3. Which factors drive the marginal propensity to consume?

    Understand how a limited liability company is taxed. Learn the tax structure of a single-owner LLC versus a multi-owner LLC. Read Answer >>
Related Articles
  1. Small Business

    What's a Sole Proprietorship?

    A sole proprietorship is an unincorporated business that has one owner who pays the taxes on the profits of that business.
  2. Taxes

    Taxes in New York for Small Business: The Basics

    Learn how small businesses are taxed in New York, and understand how tax rates vary based on whether the business is an S corporation, LLC or partnership.
  3. Small Business

    Which Type of Organization Is Best For Your Business?

    Learn the differences between the types of business organizations so you can determine how to best structure your business for tax and liability limitations.
  4. Taxes

    Taxes in California for Small Business: The Basics

    Understand the tax implications of running a small business in California, and learn which state taxes apply based on business type.
  5. Investing

    LLC Vs. Incorporation (Inc.): Which Should I Choose?

    Learn about the advantages of forming an LLC over a corporation, including ease of administration. Read about the advantages that a corporation may offer.
  6. Taxes

    Taxes in Florida for Small Businesses: The Basics

    Learn why Florida's tax laws make it an attractive place to start a small business, and understand the types of taxes a small business owner must pay there.
  7. Taxes

    Taxes in Texas for Small Business: The Basics

    Learn the tax implications for small businesses in Texas, and discover how different types of small businesses, such as LLCs and S Corporations, are taxed.
  8. Taxes

    S Corp. Vs. LLC: Which Should I Choose?

    Understand the major distinctions between an S corporation and an LLC, and the important factors to consider when choosing your business structure.
  9. Taxes

    Explaining Corporate Tax

    A corporate tax is a tax levied on the profits a corporation generates.
  10. Small Business

    Should You Incorporate Your Business?

    Find out how becoming a corporation can protect and further your finances.
RELATED TERMS
  1. Company

    An entity formed to engage in a business. A company may be organized ...
  2. Sole Proprietorship

    The sole proprietor is an unincorporated business with one owner ...
  3. Corporate Tax

    A levy placed on the profit of a firm, with different rates used ...
  4. Limited Liability Company - LLC

    A corporate structure whereby the members of the company cannot ...
  5. C Corporation

    A legal structure that businesses can choose to organize themselves ...
  6. IRS Publication 542

    A document published by the Internal Revenue Service (IRS) that ...
Hot Definitions
  1. Quadruple Witching

    The expiration date of various stock index futures, stock index options, stock options and single stock futures. All stock ...
  2. Co-pay

    A type of insurance policy where the insured pays a specified amount of out-of-pocket expenses for health-care services such ...
  3. Protectionism

    Government actions and policies that restrict or restrain international trade, often done with the intent of protecting local ...
  4. Fiduciary

    A fiduciary is a person who acts on behalf of another person, or persons to manage assets.
  5. Demonetization

    Demonetization is the act of stripping a currency unit of its status as legal tender and is necessary whenever there is a ...
  6. Investment

    An asset or item that is purchased with the hope that it will generate income or appreciate in the future. In an economic ...
Trading Center