Tony's Tax Tips

The Tax Chess Board Part 10

This article originally appeared in the Pasadena Star News on June 24, 2006.

THE TAX CHESS BOARD – An important piece on the tax chess board is the ownership of real estate. If the real estate appreciates, it increases your net worth and you do not have to pay any income tax until you sell it. If you sell investment real estate, you can avail yourself of the benefits allowed by selling property as an installment sale, a 1031 exchange or a private annuity trust, which defers payment of the tax. However, the best tax method of disposing of real estate is to sell it as a principal residence that qualifies for an exclusion of tax. An exclusion means that you never will pay the tax due.

C. Anthony Phillips, CPA

ALLOWED EXCLUSION – You may exclude up to $250,000 in gain on the sale of a principal residence if you owned and lived in it for two years. 

QUALIFYING PROPERTY – A principal residence is the home in which you live.  The Internal Revenue Service will decide if a home is a principal residence depending on facts and circumstances, such as where you sleep, get your mail, address on your driver’s license, registered address to vote, county assessor’s home owner exemption, type of insurance policy and where your children go to school.  Qualifying property may be a condominium unit, stock representing a unit in a residential stock cooperative, house boat, or house trailer. 

OWNERSHIP AND USE – To qualify for the exclusion, you must own the property for periods aggregating 730 days (two years) and use the property as a principal residence for periods aggregating 730 days (two years) or more of the five years preceding the close of the sale.  FREQUENCY – The exclusion applies to only one sale of a principal residence every two years.  MARRIED

TAXPAYERS – Married taxpayers may receive a $500,000 exclusion on certain joint returns if they are living together, either spouse meets the ownership requirement and neither spouse has had a sale in the preceding two years.  Both spouses must meet the use requirement. 

PRORATED EXCLUSION – A proration of the exclusion is allowed when the taxpayer fails to meet the two year requirement, if the taxpayer has to sell because of a job change, health or unforeseen circumstances.

Tony Phillips, CPA has a certified public accounting firm, Phillips & Company in Pasadena and is President of Downstream Exchange Company which helps investors save taxes when they sell their investment property.

The above is not intended to be used by any taxpayer for the purpose of avoiding penalties that may be imposed on the taxpayer.