Jane Young, CFP, EA
Many homeowners are under the perception that the gain on the sale of your home is based on the purchase price of a new home. This has not been the case for many years, but this misperception is understandable since most people only sell a home once or twice in a lifetime. This law was changed because it encouraged people to make housing decisions based on the tax consequences rather than their changing needs and desires.
Currently the gain on the sale of your personal residence is dependent on the gain and your ability to exclude all or a portion of the gain. You can qualify for a section 121 exclusion of up to $250,000 of the gain or up to $500,000 if you file jointly. To qualify for this exclusion, you must meet a use and ownership test. You must have owned and used your home for two out of the five years prior to the date you sell your home. The two years do not have to be consecutive. Additionally, you are not eligible if you excluded a gain on another home during the two-year period prior to the sale.
The five-year period, prior to the date of sale, is suspended up to ten years for certain individuals on qualified extended duty with the military, foreign or intelligence services. There are also some exceptions if a divorce, separation, or death of a spouse occurred while you owned the home. If you have an unusual situation, consult IRS publication 523 for possible exemptions.
To qualify for the exclusion the home must be your main home or your primary residence. You can only have one primary residence. If you own more than one home, you must apply a “facts and circumstances” test to determine which property is your main home. Generally, the most important factor is where you spend the most time.
If you receive a 1099-S you must report the sale of your home, even if your gain is excludable. You need to report the amount realized, sales price less the cost to sell your home, and the cost basis.
The basis on your home includes the original price that you paid plus legal fees, recording fees, survey fees, title insurance and charges for installing utilities. It does not include charges associated with getting a mortgage or fire and casualty insurance. Your basis also includes improvements that add to the value of your home or prolong the useful life or adapt it to new ones. This may include additions, remodeling, heating and air conditioning systems, plumbing and landscaping. It does not include routine repairs and maintenance necessary to keep your home in good condition but do not add to its value or prolong its life.
More detail is available at https://IRS.gov/Pub523. Information on the sale of a home used as a business or rental is also available in this publication.