Finance

WFH Implications for Home Sale Gain Exclusions

Most people are familiar with IRC section 121, which is more popularly known as the home sale gain exclusion. Here’s a quick refresher. If the home you’re selling has been your primary residence for two of the five years leading up to the sell date, you are able to exclude $250,000 of the gain ($500,000 if you’re married and file taxes jointly) from your taxable income. You can claim the full exclusion only once every two years. If you exclude the entire gain on the sale from income, you don’t have to report anything on your tax return. However, if any part of the gain is taxable you are required to report the sale on schedule D of form 1040.

What happens if you rent out an apartment above your garage or if you have multiple buildings on your property, some of which generate rental income? Are you still able to claim the gain on sale exclusion? If you meet the primary residence requirement, you are still able to claim a gain on sale exclusion, but you will not be able to claim the exclusion on any rental related depreciation you deducted from income on your tax return in previous years. For example, you rent your home out for several years and claim $25,000 in depreciation during the rental period. You eventually move into the home, making it your primary residence for two years before selling. You sell the home for a $75,000 gain. Only $50,000 of the gain ($75,000 gain on sale minus $25,000 of depreciation) will be eligible for the exclusion. You will be required to recognize the remaining $25,000 of the gain for tax purposes.

Similarly, if you have a home office for which you deduct deprecation on your tax return, any realized gain will be reduced by the amount of the home office depreciation you recognized on the property throughout your ownership of the property. This has taken on increased significance with so many people working from home now. Make sure you understand the implications of deprecation taken today on a future home sale in which you are hoping to claim the gain exclusion.