When Ruben heard that President Clinton had signed a landmark tax reform bill earlier this year, he had a fairly unusual response: He started packing.
But if anecdotal evidence is any guide, he’s got company. Mature homeowners all across the country are considering whether new rules relating to the taxation of real estate sales should spur them to sell their long-time personal residences, or simply vacate them for a while to live in vacation homes, tax experts say.
That’s because the law created a new break for homeowners. It allows individuals to exclude up to $250,000 per person ($500,000 for a married couple) in gains from the sale of a personal residence from federal tax. This isn’t a one-time exclusion, either. Homeowners can take these exclusions as frequently as every two years.
So, some Americans who own vacation and rental homes figure that they might just be able to take this tax break over and over again.
But to be eligible for the tax exclusions, you have to live in the home for at least two of the past five years. That’s convinced Ruben not only to sell his Palo Alto, Calif., residence but to kick the tenant out of his rental property so that he can move in. That way he can exclude the profit when he sells the rental property in a few years, too.
(Incidentally, Ruben asked that his real name not be used to avoid spooking his tenant. Several other taxpayers also were willing to share their stories, but because of fear of the IRS or larcenous neighbors, they also asked to keep their identities private.)
“If you are sitting on several single-family residences, and you don’t mind becoming a migrant taxpayer, you can take advantage of these tax exclusions several times,” confirms Philip J. Holthouse, partner at the Los Angeles accounting firm of Holthouse Carlin & Van Trigt.
The strategy can save Ruben, and others like him, a fortune. That’s because the bulk of people who are considering this strategy are retirees and the properties that they accumulated back in the 1960s and 1970s have since soared in value.
Ruben, for example, paid $65,000 for his expansive Palo Alto home in 1965. But a neighbor recently sold a similar house for more than $900,000. Meanwhile, he bought his rental home a few years later for about $67,000, he says. Today it’s worth somewhere in the neighborhood of $600,000.
Moving into the rental home for two years will mean that he can exclude the bulk of the gain on the sale of that property, too. And that’s likely to save him and his wife a cool $100,000 in federal income tax.
The same holds true for Joe, a Los Angeles man who bought a home in Hawaii back in the 1950s for less than $20,000. He’s been renting the house ever since, but now that it’s worth more than $500,000, he’s ready to pack up and head for the islands–at least for the two years required to exclude his gain.
George, meanwhile, is moving to a vacation home in Arizona. Unlike the other two who plan to sell their personal residences first, George is going to rent his home in suburban Los Angeles and then return after the vacation property is sold.
Notably, these retirees can manage such moves because they don’t have to grapple with finding new jobs in order to play tax bingo. Homeowners who are still working might find the process of moving for tax purposes far less appealing.
However, some of these retirees have concerns of their own.
Ruben, for example, is concerned whether he and his wife will be able to live in the rental property long enough to qualify for the exclusions; they’re fairly elderly and he worries that they’ll need to move into an assisted-care facility. But, again, the tax law accommodates them fairly well, says Holthouse.
Specifically, taxpayers who live in a property for at least a year but then must move out because they have become physically or mentally incapable of self-care may move out and continue to count that home as their personal residence as long as they continue to own it, he says. However, if they move out simply because they’re ill–but not incapable of self-care–or because they need to take a job elsewhere, they’ll be able to take a partial exclusion that’s based on the number of months they lived in the home before moving, he adds.
George worries that the IRS will consider his move a sham transaction and won’t allow him to exclude the gain when he sells the vacation home. However, Holthouse says the rule is clear.
“You really have to make the home your personal residence,” he says. You have to live there. You have to get your mail there. You must register your cars and pay taxes at that address. But if you do that for two years, the law says you can exclude up to $500,000 of the gain when you sell.”
———-
Kathy Kristof welcomes comments and suggestions, but regrets she cannot respond personally to every inquiry. To contact her write: Kathy Kristof, c/o The Los Angeles Times, Times Mirror Square, Los Angeles, Calif. 90053; or e-mail to: kathy.kristof@latimes.com
