Until 1977, there were two ways you could avoid paying gain from the sale of your home. One, if you sold your home and reinvested any proceeds into a new residence, you would be allowed to defer any gain on the sale. Or two, if you were over the age of 55, you could take advantage of the one-time gain exclusion up to $125,000.
Further encouraging home ownership, Congress changed and greatly improved the exclusion rules. Regardless of age, single homeowners are now able to exclude up to $250,000 of gain from a sale and married homeowners filing a joint return can exclude up to $500,000, if the following three tests are satisfied:
- Taxpayers own their home two out of the five years preceding the sale.
- Taxpayers use their home as their primary residence two out of the five years preceding the sale.
- Taxpayers have not used the exclusion in the past two years preceding the sale.
It is important to note that you are only allowed to take the exclusion on the sale of your principal residence. As a general rule of thumb, you can only have one principal residence each year and if you alternate your time between multiple residences, your principal residence is generally the home you use the majority of the year.
Now, what if you fail one or more of these tests? Don’t fret! The Internal Revenue Service has provided additional rules that may help you qualify for a reduced exclusion. If the primary reason for the sale of your principal residence is due to health problems, change in employment, or unforeseen circumstances a reduced exclusion is available. These reasons are not limited to just the homeowner, but to the individuals in the household as well. Any other individual including the spouse or other dependent of the homeowner qualifies the sale for the reduced exclusion.
Please contact Alexis Fetterman at 616-458-1835 if you have questions regarding the taxation of your home.