Partial Exclusion on a residence you've used as a rental....

I’m sure most of you know about the exclusion from tax the IRS allows on the gain from the sale of a personal home. But did you know you can still take advantage of a partial home sale exclusion on a home you once lived in but also used as a rental?

Huh?..yeah, that’s what I thought when I typed it...anyway, here's a scenario:

Suppose a single taxpayer sells a home for $600,000. She originally purchased the house in 2000 for $250,000. She lived in the home through March 31st, 2006 at which point she began renting the place out. It continued to be used as a rental up to the date of sale on February 28, 2010. The reason she sold the home was due to a job-related transfer in February 2010. The sales costs were $32,000 and the depreciation taken during the rental period was $27,800. What would the taxpayer’s taxable gain be from this sale?

The odd thing here is that she sold the house during the time it was a rental and the root question is whether or not she would still qualify for a partial exclusion...and what about the requirement that she live in the home 24 out of the last 60 months (look back period)?...In this case, the homeowner used the house as a residence 13 out of the 60 months used in the look back period:

Rental - April 1, 2006 through February 28, 2010  = 47 months
Used as a Residence                                                = 13 months prior to that

Section 121 Exclusion (this is what us nerds refer to instead of the Home Sale Exclusion since is this section where the IRS allows it) = (13/24) * $250,000 (total possible exclusion amount for a single taxpayer) = $135,425 of gain exclusion.

Something to consider, Section 121(c)(2) says:

"The reduced exclusion applies to ANY sale or exchange of a principal residence if:

The exclusionwould not (but for these rules relating to the reduced exclusion) apply to the sale or exchange by reason of:

1) A failure to meet the ownership and use requirements, or

2) The limit of only one sale every two years, and 

The sale or exchange is by reson of a change in place of employment, helath or (to the extent provided in regulations), unforeseen circumstances.

 As a result, the partial exclusion applies to any sale or exchange of a principal residence, and in this case, by virtue of the job-related move.

Now, to complete the journey to geekville, I will show you how the numbers work:

Sales Price:                            $600,000
Cost:                $250,000
Depreciation:  ($27,800)
Basis:                                    ($222,200)
Sales cost:                              ($32,000)

Gain before exclusion:                           $345,800
Section 121 Exclusion:                         ($135,425)

Taxable Gain:                                         $210,375

...yeah, i know there are some rounding differences....don’t get your abacus all up in a knot...I just want you to see the concept of what we’re doing... ;-)

Hope this helps you...if you have any questions, give me a buzz...
Mike Henninger, EA - (484) 245-4155

Summit Accounting Services, LLC