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Tax related real estate question?

Clemson Fan

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Can somebody please help me with a quick tax related question? I’m going to be moving to Hawaii in July and we’ve currently lived in our house since June 2004. There’s somebody that’s interested in buying our house now (came to my front door twice out of the blue) b/c he really likes it and he’s worried about interest rates going up in the next couple of months. He’s willing to buy the house and then allow us to rent it until we move in July.

I don’t know if I want to do this b/c I’m worried about the tax implications. I know I will lose my mortgage interest tax deduction for the months I rent which may be palatable considering the savings of not paying a large real estate commission and not being worried about having to sell it in a couple of months. However, the question I have is whether I will lose the ability to not be taxed on the capital gains if I’ve lived in the house a few months short of 2 years? I don’t think we’re going to buy a house in Hawaii and will probably be renting there for a year or more due to certain job related uncertainties we have.

]TIA for any help provided.
 
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Brett

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Clemson Fan said:
Can somebody please help me about having to sell it in a couple of months. However, the question I have is whether I will lose the ability to not be taxed on the capital gains if I’ve lived in the house a few months short of 2 years? I don’t think we’re going to buy a house in Hawaii and will probably be renting there for a year or more due to certain job related uncertainties we have.

TIA for any help provided.

there are exceptions to the two year rule and a change in employment is one of them, You ask for more details in a tax forum such news:misc.taxes.moderated or at http://fairmark.com/forum/
 

Dave M

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You'll likely not suffer by selling now.

I'm assuming that "we" means you and your spouse (and perhaps others). If so, you would be entitled to exclude up to $500,000 of gain, if you met the two-year test.

If you or your spouse will have a new job when you move to Hawaii, you can still take advantage of most of the exclusion. By selling the home after 22 months (I'll assume a mid-April closing), you'll be eligible to exclude 22/24 of $500,000 = $458,333.

Thus, if your gain is less than $458,333, you'll have no taxable gain.

If you have no taxable gain, you do not need to report the sale on your 2005 U.S. tax return. You should check the rules for your state to ensure your state follows the U.S. tax rules on this issue.

(Change the above calculation to fit your actual dates of ownership.)
 
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I think the rules may be different if you quit your job and find a new job in Hawaii vs. your job transferring you to Hawaii. Better read the fine print cause you can lose your entire exclusion if you didn't live in the place for 2 years. I'm a tax lawyer but I'm too lazy to look it up right now...but if you want to pay me $390/hr (in advance), I'll be happy to give you a more definitive answer.
 

Clemson Fan

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It's a military move for my wife. For me, I'll be leaving my job and starting off in a new one. So, I'll assume what DaveM said probably would apply to us.

DaveM, just for clarification, is it 22/24 of 500K or 22/24 of what you're capital gain is on the house that's no more than 500K. For instance, say your capital gain is 50K. Would that mean that 22/24 of 50K (45.83K) is free from tax and the remaining 4.17K is taxable? Or, would the whole thing not be taxable as long as it's below that 458.3K number you quoted?

Thanks again!

That's good news!
 

Dave M

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Eric in McLean said:
I think the rules may be different if you quit your job and find a new job in Hawaii vs. your job transferring you to Hawaii.
I believe the rules are the same. IRC § 121(c)(2)(B) provides that the formula limitation can be used if the sale is "by reason of a change in place of employment...." Regulations Section 1.121-3(c)(1) and (2) provide that a change in place of employment occurs if the qualified individual’s new place of employment is at least 50 miles farther from the residence sold or exchanged than was the former place of employment.

Better read the fine print cause you can lose your entire exclusion if you didn't live in the place for 2 years.
As long as you meet the change in employment test, you needn't have owned and lived in your home for a full two years to get the applicable portion of the full exclusion.

Although the references I cite herein are not included, Clermson Fan can confirm the treatment by reviewing pp. 14-15 of this IRS publication. Note the language, "employment includes the start of work with a new employer or continuation of work with the same employer."
 
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Dave M

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Clemson Fan said:
DaveM, just for clarification, is it 22/24 of 500K ...?
Yes.

...would the whole thing not be taxable as long as it's below that 458.3K number you quoted?
Yes.

See the worksheet on page 15 of the above linked IRS publication for the more formal version of the calculation.
 
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Dave M said:
Although the references I cite herein are not included, Clermson Fan can confirm the treatment by reviewing pp. 14-15 of this IRS publication. Note the language, "employment includes the start of work with a new employer or continuation of work with the same employer."

That's a pretty literal interpretation. I can see a transfer or a lay-off and a new job as qualifying for exclusion. Why should there be a tax break for someone who voluntarily quits his job and move elsewhere? I wouldn't rely on a publication as authority.
 

Dave M

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Eric -

If you have some authority to suggest that my citations - three of them, and I can come up with more - are inaccurate, please post here for the benefit of those who seek guidance.

However, I believe to first state that you are a tax attorney, then question the accuracy of my tax advice, (which I often give freely here), but not state your own authority is being unfair to those who seek advice here.

As for the rationale of the provision, it has been around since the law changed from deferring gain on sales to the current exclusion of gain. The moving for a new job parallels the provision for moving expense, which also applies whether or not the taxpayer moves for an existing job or a new one.
 

Wonka

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Eric in McLean said:
That's a pretty literal interpretation. I can see a transfer or a lay-off and a new job as qualifying for exclusion. Why should there be a tax break for someone who voluntarily quits his job and move elsewhere? I wouldn't rely on a publication as authority.

In my opinion, it makes no difference whether the job change was voluntary, or not. It depends more on whether the move and job change was a "planned" or "unplanned" event and can satisfy the definition of an "unforseen circumstance".

I do, however, understand your argument. The rules focus on the definition of "unforseen circumstances". The bulletin below includes a "safe harbor exclusion" for (a)the cessation of employment as a result of which the individual is eligible for unemployment compensation, (b) a change in employment or self-employment status that results in the taxpayer’s inability to pay housing costs and reasonable basic living expenses for the taxpayer’s household. If the taxpayer's move & job change has been a planned event for some time, it is possible the definition of an unforseen circumstance might not be met. As such, more information might be necessary for the right conclusion.

The following link to IRS Bulletin 2004-39 offers additional information on this issue. There is no specific limitation on the exclusion for a "voluntary" job change.

I'd search long & hard to find a reasonable explanation why this event would qualify as an "unforseen circumstance". This does not appear to be a black/white situation.


http://www.irs.gov/irb/2004-39_IRB/ar07.html
 
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I'm not saying that you guys are wrong. It just seems to be against public policy for someone to get the benefit of a tax break under circumstances of their own choosing.
 

Wonka

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Eric -

If you apply logic to the tax code, very little makes any sense or reason. It's good to have disagreements like this, it helps us all "think" a little. My first reaction was to agree wholeheartedly with Dave M. I edited my post after reading the Bulletin and gaining a better understanding of your position.

In this situation, I'm sure I'd find a comfortable postion/argument supporting taking the exclusion. But, that could change after hearing more facts.
 
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Wonka said:
I do, however, understand your argument. The rules focus on the definition of "unforseen circumstances". The bulletin below includes a "safe harbor exclusion" for (a)the cessation of employment as a result of which the individual is eligible for unemployment compensation, (b) a change in employment or self-employment status that results in the taxpayer’s inability to pay housing costs and reasonable basic living expenses for the taxpayer’s household. If the taxpayer's move & job change has been a planned event for some time, it is possible the definition of an unforseen circumstance might not be met. As such, more information might be necessary for the right conclusion.

I said I won't do any research but I'll give you my interpretation of your quote.

If you resign, you're not eligible for unemployment compensation. Furthermore, if you quit and you have savings, then clause (b) doesn't apply either. Now you're out of the safe-harbor. Playing the devil's advocate here. I can make an argument that all resignations cannot be unforseen. If you have a choice, how can you argue it's unforseen?
 

Wonka

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Looking at the string again, the move is a military move for the taxpayer's wife. In most cases, military moves aren't voluntary. However, in answer to your question, there are lots of situations where a voluntary resignation could be the result of unforseen circumstances. For example, an employee becomes aware his job will be discontinued soon. Or, an employee voluntarily resigns in lieu of being fired. Or, a separation agreement. A company is acquired by another creating job uncertainties. I can think of lot of arguments.

In addition, in some states you may collect unemployment even if you resign a position.
 
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Dave M

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Actually, Wonka, I still believe it is black and white. The "unforeseen circumstances" is only one of the safe harbors. One of the others is "change of employment", which applies here. The taxpayer qualifies by meeting any one of the three safe harbor tests.

The regulation I cited [1.121-3(c)(1)] is crystal clear. It contains a definition and several examples that are right on point - a taxpayer who resigns one job and takes another job (Example 4 in the regs). There is also an example of a military person being transferred (Example 2 in the regs). According to the regs, both situations qualify for the reduced exclusion as cited in my example. You can read the reg here.

I repeat: If someone has a citation that refutes the very clear regulation and the IRS explanation in the link I gave, go for it.

How about it Wonka? Agree or disagree?
 

Wonka

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Black & White - Maybe

Yes, Dave I would "agree". In fact, I was about to post example #4 from the IRS Bulletin 2004-09 I linked in my earlier post. We must be close to the same page LOL. It's important to read the entire Bulletin, not just my quotes. For other readers, Here is Example #4:

"Example 4. In July 2003 D, who works as an emergency medicine physician, buys a condominium that is 5 miles from her place of employment and uses it as her principal residence. In February 2004, D obtains a job that is located 51 miles from D’s condominium. D may be called in to work unscheduled hours and, when called, must be able to arrive at work quickly. Because of the demands of the new job, D sells her condominium and buys a townhouse that is 4 miles from her new place of employment. Because D’s new place of employment is only 46 miles farther from the condominium than is D’s former place of employment, the sale is not within the safe harbor of paragraph (c)(2) of this section. However, D is entitled to claim a reduced maximum exclusion under section 121(c)(2) because, under the facts and circumstances, the primary reason for the sale is the change in D’s place of employment)".

Does this example make the situation "black & white"? I suppose it depends on one's definition of "black & white. I think so, but other paragraphs in the Bulletin do seem to contradict it. Is it crystal clear? Maybe. That depends on the reader and his glasses. There is no question, however, that I would recommend a client take the exclusion. I would simply advise them that if it is challenged, it should stand the test of audit unless there is a tax court case or other opinion I'm not aware of. At $375 hr., I might offer a more concrete opinion (that doesn't mean it would be right). But, as we have been told, "the free advice you get here on TUG is only worth what you've paid for it".

Now, to the other issue of unemployment (somewhat off topic but included in the other posts). I'm not an unemployment expert or attorney, but my brief research would indicate an individual isn't automatically excluded from collecting unemployment because they voluntarily left a position. Here's a link that would seem to support that conclusion:

http://www.twc.state.tx.us/news/efte/ui_law_qualification_issues.html

Also, many might be surprised to learn that severance pay also doesn't necessarily prohibit an individual from collecting unemployment.

Dave, you're more experienced in labor law than I. What's your opinion on this? Incidently, for anyone that's trying to follow my edits, forget it. I'm having trouble cutting/pasting tonight for some reason.
 
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Dave M

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Wonka said:
I'm not an unemployment expert or attorney, but my brief research would indicate an individual isn't automatically excluded from collecting unemployment because they voluntarily left a position.
I agree. Although it's not a good result from an employer's (my) standpoint, the laws of some states allow it.

Also, many might be surprised to learn that severance pay also doesn't necessarily prohibit an individual from collecting unemployment.
Again, I agree. Depends on the state.
 

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Eric in McLean said:
I said I won't do any research but I'll give you my interpretation of your quote.

If you resign, you're not eligible for unemployment compensation. Furthermore, if you quit and you have savings, then clause (b) doesn't apply either. Now you're out of the safe-harbor. Playing the devil's advocate here. I can make an argument that all resignations cannot be unforseen. If you have a choice, how can you argue it's unforseen?

Having been married to a military person I can assure you the military person does not usually have a choice, and it is mostly unforseen.
So, assuming the wife owns the home too, I would think that would cover it.
 
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