Major life milestones often have a major tax impact. Changes in your marital status, having a baby or adopting a child can have significant impact on your taxes. This is the place to ask questions about dependents, real estate, and other various scenarios that play a significant role in what taxes you pay.
02-09-2018 01:26 AM - edited 02-09-2018 01:30 AM
I've got a tax planning scenario and am looking for input.
Home A - purchased in 2010 by my wife and I before we were married, and was our primary residence until it was converted to a rental in 7/2016. Reasonable expectation of $170k gain if sold today.
Home B - purchased by my wife and I in 6/2016, and has been our primary residence since then. Reasonable expectation of $100-$150k gain if sold today.
I will be taking a new job, and we are looking at the consequences of selling one or both homes.
Is there a way, on a married filing jointly return, it could be justifiable to sell Home B in 2018, and use only (pro-rated) $250k of exclusion attributable to self, and then sell Home A in 2019, before 07/2019 (complying with the 2 of 5 test), and use the $250k exclusion from the spouse at that time? In either case, does it matter if self+spouse are both on the deed? Please ignore, for now, the depreciation recapture that will hit when selling Home A.
02-12-2018 01:28 PM
Welcome to The Community and thanks for the great question!
My reading of the statute (IRC § 121), unfortunately, would not allow your plans to succeed because of what IRS Publication 523 calls the "look-back rule," which does not allow one sale of home exclusion within 2 years. The special rule allowing spouses to each take $250,000 on separate residences (IRC § 121b2b) on a joint return only applies in situations where the spouses do not both meet the ownership and use rules for each other's homes, like in cases where they get each sell homes and get married and move in together when they combine households. I could not find any other exception to the "look-back rule" other than the partial exclusions for health, unforeseen circumstances, and employment related being the primary purpose of the sale, like if you move into a new home, live there a year, then are transferred for work.
02-14-2018 01:57 PM
Thank you for the thoughtful response. If I restate my question more clearly, I am asking about the applicability of IRC § 121f. It makes explicit that a tax payer is not *required* to take the capital gains exclusion; it is an elective benefit.
In the case of a joint filing situation where both spouses do not meet the required tests, 121b2b allows the combined $500k exclusion to be evaluated as an independent $250k exclusion for each taxpayer represented by the joint filing. In that case, as you've pointed out, the tests (residence, ownership, and 2 year look-back) are evaluated for each taxpayer individually, even though they are filing jointly. When one spouse does not meet the tests to apply the exclusion, but the other does, the exclusion is disallowed on an individual basis for one spouse, but the $250k exclusion can still be applied on an individual basis for the other spouse. Again, as you've said, this is established... it is acceptable for two sales, each with $250k exclusion, to be reported on the same joint return, when the spouses are disallowed from combining their exclusions on either individual sale due to failures in ownership, residence, or look-back tests.
Should there be a difference in how the IRS treats it when one spouse is disallowed, and when one spouse uses the right granted by IRC § 121f to *elect not* to use the exclusion? If *electing not* to use the exclusion is materially the same as being disallowed from using the exclusion, as determined for each taxpayer individually, it would seem like reporting two sales with two independent $250k exclusions (otherwise violating the 2 year look-back when considered jointly) is acceptable.
Married filing separately would make this cleaner, since that eliminates the applicability of IRC § 121b2 completely. In that case, the choice to elect or not elect the exclusion can be made on an individual basis, even when both spouses meet the ownership, residence, and look-back tests. There are other consequences to that filing type that would need to be considered, and in community property states, it would probably be necessary for the proceeds of at least the first sale to be clearly owned by just one individual (in the case of joint ownership, filing a quitclaim deed prior to the sale, for example).