Dear Liz: You recently answered a question from a couple who wanted to move into their rental property, make it their primary residence and use the $500,000 home sale exclusion if they sold the property after living there for two years. You should have made it clearer that not all of the gains on the property would qualify for the exclusion.
Answer: Quite right. In 2008, Congress closed the loophole that allowed people to exclude all the gains when they turn rental property into their primary residence. So the couple would not be able to count the gain that occurred between 2009 and whenever they move in. They would, however, be allowed to include the gain from 1988, when they bought the property, through 2008, as well as any increase in value after they move in if they live in the house at least two years, says Mark Luscombe, principal analyst for Wolters Kluwer Tax & Accounting.
In some parts of the country, there may not be enough gains from those two periods to qualify for the full $250,000-per-owner exclusion, especially after accounting for the depreciation recapture, which requires landlords to pay back the depreciation tax break when they sell a rental property.
In higher-cost areas, however, there still could be more than $500,000 of qualifying gains, Luscombe says.
Finding the value of one’s home in 2009 seems a bit challenging, given that it’s not like it’s a stock price listing. Neither Redfin nor Zillow agree on what current valuation is, much less any historical valuation.
Appraisal seems to be as much art as science, but appraisers have told me they can come up with a value for most homes based on comparable historical sales. A tax pro can fill you in on what the IRS is likely to require in an audit.