Home appreciation has many sellers worried about the tax consequences that may come with selling their house. A frequently asked question by sellers is, “How can I minimize the tax on the gain from my property.” A section 121 exclusion allows you to exclude the first $250k of gain from the sale of your home (or $500k if you file a joint return.) A Section 121 exclusion is something that many people are eligible for without even knowing it. So, what do you need to qualify for a section 121 exclusion?
Automatic Disqualification for Section 121 Exclusion
If either of the following is true, you are not eligible for the Section 121 exclusion:
You acquired the property through a like-kind (section 1031) exchange in the past five years
You are subject to expatriate tax (this applies to US citizens who give up their citizenship and long-term residents who end their US resident status for federal tax purposes.)
Primary Residence
You must be selling your primary residence (main home) to qualify for this exclusion. Your main home is the address listed on your voter registration card, federal and state tax returns, driver’s license, and US postal service address. The definition of a primary residence is not limited to a traditional house like you would imagine. It includes houseboats, mobile homes, condominiums, cooperative apartments, and a single-family home.
Ownership
To meet the ownership requirement, you must have owned the home for two of the last five years leading up to the date of the sale. For married filing jointly, only one spouse needs to meet this requirement.
Residency
To meet the residency requirement, you must use the home as your primary residence for two out of the last five years. This time frame can be broken up and does not have to be a single block of time, but if you were ever away from the home, you need to determine where that time counts towards your residency. For example, a taxpayer could live in the home for one year, move away for three years, and then use it as their primary residence the last year.
Look Back Period
The look-back period refers to the 2-years before selling the home. You must not have sold another home during the last two years to meet this requirement as you can only take the exclusion one every 2-year period.
There are exceptions to the Eligibility test, so it is important to talk to your tax professional if you think you may qualify for a Section 121 exclusion. However, this is a great way to avoid paying capital gains when selling a primary residence. As always, contact your financial advisor if you have any questions about the tax implications of selling a home.
Section 121 Exclusion
September 9, 2024
Clay Reynolds
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