DO I NEED TO REPORT A PROFIT ON THE
SALE OF MY HOUSE TO THE IRS?
If you sell your principal residence and you make a profit, you may be able to exclude that profit from your taxable income. There is up to a $500,000 Exclusion on the sale of your principal residence. An individual can exclude up to $250,000 in profit from the sale of a principal residence, a married couple can exclude up to $500,000, as long as you have owned the house and lived in the house for a minimum of two years. The two year period does not have to be consecutive. As long as you live in it for 24 months, and within the last 5-years prior to the sale of the house, you will qualify for the exemption. If you qualify, you pay NO TAXES on this profit. Ever! A loss on the sale of a principal residence is never deductible.
If you have a profit on your principal residence and have lived there for less than 2 years and do not qualify for a partial exclusion, which is explained below, you will have to report this gain on your income tax return on Schedule D as a capital gain. If you owned your principal residence for one year or less, the gain is reported as a short-term capital gain. If you owned your principal residence for more than one year, the gain is reported as a long-term capital gain.
To calculate either a gain or a loss you will first need figure out your cost basis. Basically, cost basis is your original purchase price. You then will add the purchase costs involved in buying the house. IE: Title, escrow fees, attorney fees, etc. Then add any major improvements done to the house. IE: New roof, furnace, driveway, fence, etc. Then add the sales costs in selling the house. IE: Title, escrow fees, attorney fees, etc. When you add all these costs together you will now have what we call the Adjusted Cost Basis. However, if you used part of your house as a home office and you depreciated that portion of the house on your tax return, you now will have to add back that depreciation in the calculation of your Adjusted Cost Basis. To figure out your gain or loss on your principal residence you will take the selling price, subtract the Adjusted Cost Basis and the difference will either be a gain or a loss.
You now can use the 2 out of 5 year rule to exclude your profits each time you sell or exchange your principal residence. Generally, you can claim the exclusion only once every two years. There are some exceptions that do apply. If you lived in your house less than 24 months, you still may be able to exclude a portion of the gain. These exceptions may be allowed if you sold your principal residence because of a job relocation, health problems, or an unforeseen incidence.
If you purchase a new house as your principal residence. Lived in it for less than 24 months. Then had a job transfer. You may be able to exclude a part of your gain on the sale of your principal residence. This exception would only apply if you were to move to a new location with your employer or started a new job.
If you need to move from your personal residence on account of medical or health reasons, are able to document this by a letter from your physician, you may be able to exclude a part of your gain on the sale of your principal residence.
If you need to sell your principal residence on account of unforeseen circumstances, you need to be able to document those reasons. See IRS Publication 523, which defines an unforeseen circumstance. Basically, it is an occurrence of an event that you could not have reasonably anticipated before buying and occupying your principal residence, IE: divorce, separation, death, natural disasters, acts of war, multiple births from the same pregnancy, acts of terrorism, changes in employment, or unemployment which you can not meet basic living expenses.
You can qualify for one of the three exceptions to the 2 out of the 5 years rule, you may be able to qualify for a Partial Exclusion. Your partial exclusion will be based upon the amount of time you actually lived in your house. Take the number of months you actually lived in your house, divide that number by 24, and multiply this ratio by $250,000 (single) or by $500,000 (married). The result is the amount of gain you can exclude from your taxable income.
For example, lets say you bought a house and lived in it as your principal residence for 12 months. That you had to sell your house because of a documented health problem. Your married. You would calculate your partial exclusion as follows: 12 months divided by 24 months comes out to .50 or 50%. If you take .50 times your maximum exclusion of $500,000, you come up with $250,000, which is the maximum you can exclude in a gain. Any gain over the $250,000 exclusion would have to be reported as taxable income. Any gain that is equal to or less than $250,000 will be excluded from your taxable income.
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