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Home is where the heart is.

Many sections in the Internal Revenue Code provide special treatment for the purchase or sale of taxpayer's principal residence While most of them are fairly straightforward, they may need be examined carefully when a tax payer's marital status changes due to divorce or remarriage.


While a taxpayer may have man personal residences, only one ca be his or her principal residence this determination is based on all relevant factors.



Two major tax breaks are available for taxpayers who sell their principal residences.

Gain rollover. Taxpayers may defer (and thus not currently pay tax on) all or a portion of any gain realized on the sale of a principal residence if he or she purchases or builds a new principal residence within two years before and two years after the sale of the old residence. In addition, the cost of the new residence must exceed the adjusted sales price of the old one.

Note: This treatment applies only to gains; losses from the sale of principal residences may not be deducted.

Exclusion from gain. Taxpayers 55 or older may elect a once-in-a-lifetime exclusion of up to $125,000 in gain from the sale of a principal residence. The taxpayer must have been 55 before the date of the sale and must have used the home as his or her principal residence for at least three of the five years preceding the sale. A widow or widower not meeting these requirements still may make the election if he or she meets the age test an the deceased spouse satisfied the use test as of the date of sale.

Note: Once this exclusion ha been elected, even if not for the maximum amount, it is no longer available to a taxpayer.


Typically, one of three situations is present in a divorce:

1. One spouse transfers his or her interest to the other spouse, who continues to own and reside in the house after the divorce. If the transfer is incidental to the divorce, no gain or loss is recognized. The recipient spouse has a basis in the house equal to his or her previous basis plus the transferor spouse's previous basis. (Note: If not properly structured, the transaction still could result in adverse gift tax consequences.)

2. The principal residence is sold and the proceeds divided. If the residence was held jointly, one half of the realized gain is attributed to each spouse. Each can then decide whether to roll over or exclude gain (if applicable). However, if the couple elected to use the exclusion during their marriage or if one spouse sold separately owned property during the marriage, it no longer would be available.

3. Both spouses keep the principal residence. If the residence is retained by both parties after their divorce, no gain or loss is triggered. If one of the spouses continues to reside in the house, it remains his or her principal residence; this spouse still can roll over or exclude gain. The nonresident spouse loses these rights unless he or she purchases and occupies a new principal residence within two years. If neither spouse resides in their previous principal residence, they both may lose the rollover and exclusion opportunities.


Similar issues are present on remarriage. If each future spouse owns a residence and they decide to live in one of them after marrying, the spouse owning the other residence loses the opportunity to roll over gain; in such situations, the individuals obviously should make some decisions and take some actions before they get married.

The availability of the gain exclusion for remarried individuals depends on whether the taxpayers already benefited (directly or indirectly) from the exclusion. If one spouse already used his or her exclusion before the marriage, the other spouse's ability to exclude gain on a sale after their marriage is lost. For both spouses to have the right to exclude gain, each must sell his or her respective principal residence before marrying.

For a discussion of these issues, see "Tax Planning for the Personal Residence in the Context of Divorce and Remarriage," by Richard Harris, in the October 1993 issue of The Tax Adviser.
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Title Annotation:from The Tax Adviser
Author:Fiore, Nicholas J.
Publication:Journal of Accountancy
Date:Oct 1, 1993
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