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You may qualify to exclude from your income all or part of any gain from the sale of your main home. This means that, if you qualify, you will not have to pay tax on the gain up to $250,000 if single and $500,000 if married.

To claim the exclusion, you must meet the ownership and use tests. This means that during the 5-year period ending on the date of the sale, you must have owned the home for at least 2 years (the ownership test) and lived in the home as your main home for at least 2 years (the use test)

For many parts of the US a half million dollars in exclusion per married couple every 2 or 3 years is more then enough. However, if you live in California and few other places within the US; you can easily max out your exclusion and end up paying capital gains taxes on $100,000 to $300,000 easily.

Example: Mary and Joe bought a home in 1980. They had upgraded from a smaller home and the new home was in a very nice neighborhood. The area, over the years increased in value and now the home is worth $850,000. Mary and Joe only paid $129,000 for the property. That is a gain of $721,000 – The house is paid for.

In order to avoid paying capital gains on the amount over $500,000 -Mary and Joe decided to carry a note for $221,000. The new owners will pay Mary and Joe principal and interest each month. The note is for 20 years; (Mary and Joe will use the income as monthly retirement income) Interest rate of 7%

For those of you who are into numbers you will, understand that Mary and Joe will earn a substantial amount of money on the real estate note of $221,000 over time. But more importantly, Mary and Joe will lower their taxes by not having to pay capital gains on the $221,000; the amount over the $500,000 exclusion.

IRS Tax Code: Installment Sale of Your Primary Home; Sales made under arrangements that provide for part or all of the selling price to be paid in a later year. These sales are called “installment sales.” If you finance the buyer’s purchase of your home yourself, instead of having the buyer get a loan or mortgage from a bank, you probably have an installment sale. You may be able to report the part of the gain you cannot exclude on the installment basis.

To take this plan a step further; if Mary and Joe decide that they want to cash out the $$221,000 note once they are age 65 or older and their annual income is much lower, they can do so. The note will be discounted; however, they can still walk away with a sizeable amount of cash.

For more information you can go to irs.gov; keywords Publication 523

Cassandra Ingraham is a Tax Accountant and Instructor for Basic Tax Classes in the San Francisco Bay Area. During the balance of the year she can be found at http://www.taxeswilltravel.com providing Formal Introductions to Lenders for Accounts Receivable Funding (Factoring) and Real Estate Notes

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