CAPITAL GAINS TAX CLARIFIED
The 2018 Tax Cuts and Jobs Act (TCJA) changed tax rates and brackets and
included many other changes that will affect individual tax payers for the
years 2018 – 2012. The act retained for the most part the status quo for
taxes on long term capital gains including the sale of personal residences. Tax
payers are permitted to retain, tax free, up to $500,000 (for married couples) in capital
gain upon the sale of a personal residence. Single taxpayers may obtain up to
To qualify for the exemption, the taxpayer must have occupied the home for
at least two of the previous five years prior to sale. The IRS rules allow
taxpayers who live in the property for less than two years the right to shield
a portion of their gain from taxation. To qualify, the sale of the property
must have been for "unforeseen circumstances".
The law provides that this "proportional" benefit means that if a
taxpayer lives in the property for one year instead of two (and meets one of
the above reasons for sale), a single taxpayer may pay no tax on up to $125,000
worth of gain ($250,000 if married) as opposed to having to pay the tax that
would otherwise be owed.
The original law unfortunately was unclear regarding the test for
"unforeseen circumstances". There was no consent on what the phrase
actually meant although most interpreted it to mean change or loss of
employment or a family health emergency. Even now there is little agreement on
what constitutes "unforeseen circumstances" and one should seek legal
and tax consultation.
The "two out of the last five year" rule (originally included in
law in 1997) made for some interesting scenarios under which sellers might
escape paying taxes. The seller did not have to be living in the home at the
time of the sale, but merely must have lived in the home two of the last five
years. One of the other aspects of this law was the ability for investors to
move into and occupy a rental property (thereby converting it into a personal
residence) for two years and then sell it and benefit from the up to $500,000
exemption. The IRS has now closed this loophole and new rules apply. An owner
reoccupying a home after having rented it will have only a partial tax
exemption unless the occupancy continues for another full five years.
The TCJA made other adjustments to
the tax code regarding some limitations on the interest deduction for owner
residences. Equity line loans are affected in that the interest on these loans
is no longer deductible unless the proceeds are used for home improvements.
Consumers are urged to seek tax advice should they have questions.
(See “Mortgage Interest Rules
Clarified” for more information)
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