By David Parker
Generally, under the Internal Revenue Code, if a homeowner sells their principal residence, they may be able to exclude from income up to $250,000.00 of gain realized on the sale of the home if the homeowner owned and occupied the property as a principal residence for an aggregate of at least two years out of the five years prior to the sale. If the homeowner files a joint tax return with their spouse, then they may be able to exclude up to $500,000.00 of gain.
It is not necessary that the period of use is a consecutive two-year period, as long as the periods of use during the five-year ownership period total two years. Also, the $250,000.00 exclusion is not a once in a lifetime benefit. Another interesting point is that if the homeowner(s) meet both the appropriate ownership and use test, they may repeatedly claim the exclusion on the sale of a principal residence, although the exemption is only allowable once every two years.
There are several important rules to keep in mind. Since the taxpayer can only take the exclusion on the sale of their principal residence, the taxpayer must understand that they can only have one main home at a time. Thus, if someone owns and lives in several homes, the Internal Revenue Service will require the homeowner to apply a “facts and circumstances” test to determine which home really is their main home.
Certainly, the biggest fact is where the homeowner spends most of their time. Other factors include matters such as where a person votes, where their car is registered, where they have a driver’s license, where they work, bank, the residence of family members and even factors such as recreational clubs or religious organizations which the homeowner belongs to. The exclusions described above apply to single family homes, condominiums, cooperatives, mobile homes and even to a houseboat.
Many people are under the impression that they must spend all of the cash proceeds from the sale of their principal residence in order to qualify for the exclusion of gain benefits described above. Generally speaking, the homeowner is not required to reinvest or spend all of the cash proceeds from the sale of their principal residence. The homeowner may purchase their new house with a small cash down payment and take out a loan for the remainder of the purchase price. Therefore, it is possible that someone could sell their principal residence, use as little as $5,000.00 of their proceeds, even if they received $200,000 in proceeds, and then the homeowner can utilize the remaining cash for investments, college education, savings, or acquiring investment real estate.
In many cases, Village Settlements, an Atlantic Closing and Escrow Company is required to file a 1099-S with the Internal Revenue Service. Unless a separate allocation of proceeds has been requested at or prior to settlement, we will report the gross proceeds (the sales price) for each Seller. Many Sellers think that the Internal Revenue Service (IRS) only gets a report on the bottom-line proceeds that the Seller receives. However, the IRS specifically states in their instructions not to reduce the gross proceeds report by an expenses paid by the Seller, such as real estate commission, settlement attorney fees, etc. The IRS wants to know the contract sales price and that is what is reported. Readers are urged to discuss any unusual situations with their accountant, tax attorney or financial advisor.
David Parker is an attorney and the Managing Director of Village Settlements-an Atlantic Closing and Escrow Company. His columns have appeared regularly in local newspapers, magazines, and newsletters. He is the co-author of the book, “Real Estate Practice in DC, Maryland and Virginia.” If you have a topic that you would like him to write about, he can be reached at
