Janis Peterson, GRI, ABR, CSP Realtor®
Philadelphia Main Line Homes and Real Estate
Montgomery, Delaware, and Chester Counties
The good news for homeowners just keeps getting better. The IRS Restructuring and Reform Act of 1998 initiated a major reform of the nation's tax collection agency. Key provisions of the act help homeowners in a number of ways. In addition, the Tax Technical Corrections Act, a part of the Restructuring and Reform Act, corrected a number of issues created by problems in statutory language (i.e. ambiguous language, errors and omissions) largely found in the Taxpayer Relief Act of 1997.
One of the corrections made to the 1997 Taxpayer Relief Act concerns capital gains. The Taxpayer Relief Act, eliminated or significantly reduced the amount of taxable capital gains that are realized when a homeowner sells a home that has appreciated in value. Under the 1997 law, taxpayers who owned and used a home as a principal residence for at least two years out of the five years prior to its sale, were able to exclude the first $250,000 of their capital gain ($500,000 for a married couple filing jointly). For the vast majority of homeowners this meant no capital gains taxes were due.
For a homeowner who did not meet the ownership and principal residence requirement, but sold the home due to a change in the homeowner's place of employment, health, or unforeseen circumstances, a pro-rata amount of the exclusion could be taken. Unfortunately, the 1997 law created an uncertainty as to how to calculate the pro-ration.
Example: An unmarried taxpayer owns a home and uses it as his principal residence for one year. He then relocates because of a job transfer. He has a $60,000 gain on sale.
The IRS position had been that only one half of the $60,000 gain could be excluded from his income. The IRS calculated the pro-ration based upon the amount of the gain. The IRS Reform Act clarified the issue in favor of the taxpayer and provides that taxpayers who do not meet the ownership and use requirement can exclude an amount of the $250,000 (or $500,000) capital gains exclusion equal to the fraction of the two years that the ownership and use requirement is met. In the example, therefore, the taxpayer can now exclude the entire $60,000 of gain (and could exclude up to $125,000 of gain, if he had that much). The pro-ration is based upon the amount of the statutory exclusion, not the gain.
Suppose you were a single taxpayer and bought a new home for $300,000. One year later your company offered you a promotion that allowed you to move to a new location. Because of the strong real estate market, your home appreciated and you were able to sell it for $330,000. Until the IRS Reform Act of 1998 was passed, the IRS would have applied capital gains tax on half of the $30,000 increase. Under the new law, the pro-rata exemption means a homeowner experiencing a gain only pays taxes if gains go above the full pro-rata amount, or in this case, $125,000.
Fortunately, most homeowners live in their homes for more than two years and can claim the full benefit of the 1997 law. Let's consider another example, a married couple who files jointly buys a home for $300,000 in 1988. They sell in the year 2000 for $500,000. Under the law, their entire gain is tax-free. What's more the exemption is no longer limited to a one time only application. Homeowners have this exemption available each time they sell their home, as long as they are selling no more frequently than once every two years.
The 1998 IRS Reform Act also takes steps to protect homeowners facing collection actions by the IRS. In the past the IRS could issue a levy on a principle residence without a court order. Under the new law, due process is enhanced by requiring a court order before such levies can be imposed. Furthermore, the new law eliminates these levies altogether when the amount involved is less than $5,000.
When these reforms are taken together with the home loan interest deductions, residential real estate is clearly the best and most widely accessible tax break available today. You should consult your tax adviser or attorney and ask how the tax advantages of owning your own home may benefit you.
"Real Service in Real Estate." For a personal consultation on buying or selling real estate, Janis Peterson, GRI, ABR, CSP Realtor® can be reached at (610) 642-3744, e-mail: firstname.lastname@example.org. Prudential Fox & Roach Realtors® is an independently owned and operated member of The Prudential Real Estate Affiliates, Inc.
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