February/March 2005 Issue
Page 6

NAR NEWS

Final Regulations for Home Sale Exclusion Issued

In August 2004, the Internal Revenue Service ("IRS") issued its final regulations governing the home sale exclusion for the sale of a taxpayer's principal residence. Click here to read the regulation. The general rule is that a taxpayer may exclude up to $250,000 on a sale or exchange of his/her principal residence from gross income so long as the taxpayer has used the residence as his/her principal residence for at least two of the last five years. Married taxpayers filing jointly may exclude up to $500,000 of such gain. The exclusion can be used every two years.

The regulations also now allow for partial exclusion in certain circumstances where the taxpayer cannot meet the two year minimum residency requirement. The regulations establish a safe harbor where the taxpayer can qualify for the partial exclusion when the taxpayer sells his/her home after less than two years for reasons involving employment, health, or unforeseen circumstances. If a taxpayer qualifies for the safe harbor, the taxpayer can then claim a prorated exclusion from gross income. For example, if the taxpayer sells principal residence after one year of principal residency for a health reason which qualifies under the safe harbor contained in the regulations and has a $125,000 gain on the sale, the full amount of the gain is excludable from gross income (half of the $250,000 exclusion would qualify in the above example, or $125,000).

A taxpayer qualifies for the health safe harbor when the sale is motivated by the taxpayer's desire to obtain, provide, or facilitate the diagnosis, cure, mitigation, or treatment of disease, illness or injury of a qualified individual or to obtain or provide medical or personal care for a qualified individual suffering from a disease, illness or injury. A "qualified individual" includes not only the taxpayer but also the taxpayer's spouse, a fellow co-owner of the residence, and also any person whose principal place of residence is the same as the taxpayer or has a dependent relationship with the taxpayer. A taxpayer does not qualify for the health safe harbor if the sale is simply beneficial to the taxpayer's general health; instead, the primary reason for the sale must be based on a recommendation by a physician to move for a health-related reason.

The regulations also offer a taxpayer a prorated exclusion when the taxpayer is forced to sell his or her home for employment reasons. To qualify for this exclusion, a qualified individual's new place of employment must be at least 50 miles farther away from the former residence sold or exchanged. The definition of qualified individual remains the same as the definition set forth for the health safe harbor.

A taxpayer can also qualify for a prorated home sale caused by unforeseen circumstances. "Unforeseen circumstances" include "natural or man-made disasters or acts of war or terrorism resulting in a casualty to the residence." The extent of the "casualty to the residence" is undefined. The regulations also allow for a prorated exclusion for the following unforeseen circumstances striking a qualified individual (as defined above): death; receipt of unemployment compensation due to a loss of job; divorce or legal separation; or multiple births resulting from the same pregnancy

(Reprinted from NAR’s Letter of the Law section)

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