Along with overhauling of the Internal Revenue Service, a new law allows more homeowners to be free of federal taxes when they profit from selling their property and it makes the IRS work harder at settling back tax disputes before it seizes their home.

We've all worked hard to give the American people an IRS that reflects America's values and respects America's taxpayers,'' said President Clinton during a White House signing ceremony July 22.

One of the few major legislative achievements of 1998, the Internal Revenue Service Restructuring and Reform Act clarifies a gray area in the Taxpayer Relief Act of 1997.

The act says if you sold your principal residence on or after May 7, 1997, the first $500,000 (for joint filers, $250,000 for singles) of gain is excluded from the capital gains tax.

The home must have been your primary residence for at least 2 of the 5 years before the date of sale. The relief act also says you can use the new $500,000 exclusion once every two years.

If you signed a contract to sell your home between May 7 and August 5, 1997, you can choose the old law's option of deferring the gain,the old law's "age-55-or-over one-time $125,000-exclusion" option, or the new law's $500,000 exclusion.

Capital gains tax relief clarified

The tax relief acts confusing provision allowed you to prorate the $500,000/ $250,000 exclusion if unforeseen events, such as a job change, illness, or some other hardship made you unable to meet the two-year time requirement.

But prorate what? The gain or the exclusion amount? The new law uses the exclusion amount.

Say you are transferred to Boston after owning a home for just one year. You can keep half of the exclusion amount ($125,000 if you're single, $250,000 if you're married) because you met half the requirement to occupy your home for two years before you sell.

For example, if you and your wife bought a home in California's fast appreciating market 18 months ago, but now you're being transferred to Washington, D.C. and your gain on a luxury estate is $200,000.

Multiply three-fourths (18 months divided by 24 months) times the $500,000 statutory ceiling, and your maximum allowable tax-free exclusion comes to $375,000. You pay no federal taxes on the gain.

In another example, you are a single person and you own a home for just eight months before illness forces you to liquidate and move in with relatives. You net a $100,000 profit on the sale of the home. Multiply one-third (8 months divided by 24 months) times the $250,000 statutory ceiling, and your tax-free exclusion comes to $83,333. That means that only $16,667 of your gain is subject to taxes.

Home safe home

Mandating a kinder, gentler IRS, the reform act also prevents the IRS from seizing your home (and any other non-investment property you own that someone is using as a home) to obtain back taxes when the amount you owe, including penalties and interest, is $5,000 or less.

Also, no matter how much you owe in back taxes, the IRS must now exhaust all other administrative remedies and alternative payment options before it seizes your home.

Published: July 30, 1998

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