One of the most commonly asked questions for those who are planning to sell a home is what are the tax considerations involved in this process. The sad truth however is there is no simple answer to this very important question. In fact, most tax implications are determined simply many specific details including the profits obtained, location of the property, your age, and other important details. However, there are four basic areas which any home owner should consider when selling their home that could impact their taxable income and liabilities.
The Rule of two-out-of-five and $250,000 Exclusion
Back in 1997, the United States Federal Government passed a new homeowner tax program that has provided many US tax payers with an actual positive incentive to sell their properties without having to pay large capital gains taxes. This is known as the 2-out-of-5 rule and permits home owners to exclude as much as $250,000 in profit from the sale of a primary residents for individuals or $500,000 for married couples. The basic requirement is that you must follow these important standards:
- The home must have been lived in as a primary residence for at least two years (24-months)
- The two years however do not need to be consecutive however you must prove that you resided in this property for a 24-month period. This is a nice incentive for people who own homes in multiple states.
- In the two year period of residence, it must have been completed in the past five years prior to the sale of the property. This is where the two-out-of-five rule gets its name. For example, if you sold a house in 2013, you must have listed this property as your primary residence for 24 months from 2008-2013.
- This exemption can only be claimed once every two years. However like most tax rules there are some exceptions which apply.
Some of the Exceptions to the two-out-of-five rule
As we stated above, sometimes there are some exceptions to this rule that will allow you to take advantage of this tax consideration. Some of these exceptions include:
- If your primary job changes location: If you have lived in a house for less than two year, it is possible to exclude your capital gain of up to $250,000 for individuals if you are forced to move due to relocation of the primary job.
- Health Issues: If you are forced to sell your home due to health concerns or medical reasons, you may also qualify for this exemption. However, you need to ensure you have proper documentation to prove to the IRS if asked to supply. This documentation does not need to be submitted with your annual Federal or State income taxes.
- Unforeseen Circumstances: The final exception is a detailed list of specific ‘unforeseen circumstances’ that forces you to sell your property earlier than the two year minimum of residence. Some of these instances include a natural disaster, act of terrorism or war, divorce or separation from a spouse, death or multiple births.
There are several smaller tax considerations that any home seller should consider including closing costs, paying taxes on interest for loans, moving expenses and other ancillary potential deductions. A great resource of information is to visit IRS.GOV to get detailed answers for any questions you might have on the tax considerations on the sale of your property.