Question

Discuss the how residence sales are treated under the tax law. You may want to refer to Section 121 of the tax code and to the IRS publication 523.   What are the requirements for it to qualify as a "residence" sale?   What are the limitations?   Why does the law provide this benefit to taxpayers? What if the taxpayer has more than one home, can 2 or more homes qualify?   What is the 2-year rule all about?

Answer 1

Publication 523 publication provides an explanation on the tax rules that apply on selling (or otherwise give up ownership of) a home. In general, for qualifying for the Section 121 exclusion, it is important to meet both the ownership test and the use test. You will be allowed for the exclusion if you have owned and used the home as the main home for a period aggregating at least two years out of the five years prior to its date of sale. Moreover meet the ownership and use tests during different two year periods. But must meet both tests during the 5-year period ending on the date of the sale. Usually, you're not eligible for the exclusion if are excluded the gain from the sale of another home during the 2-year period prior to the sale of your home.

The limitation is that the duration inhibits quick transactions and exchanges in the real estate market since the approval takes time. The benefit gained is that it creates deferred tax system for the tax payers or investors.

The current tax laws facilitate a lower benefit to those who buy a single house property for residence (self-occupied house) compared to the investor who invests in property to earn higher income.

Furthermore, two or more homes may qualify depending on the ownership structure especially if not shared.

The 2-year rule stipulates that the owner of the residential property must have been lived at that residence for at least 24 months (730 days) and have the principal residence title for two years out of the five for ownership.