Even with home prices moderating, if you’ve owned a house for any significant period of time, chances are you’re sitting on a hefty profit.
Thankfully, the IRS allows for a major capital gains exemption of $250,000 on home profits if you file your taxes single and $500,000 if you’re married and file jointly.
That’s meaningful money even for people with real wealth.
However, there is a catch. You must have lived in the home you sell as your primary residence for at least two of the most recent five years to be eligible.
If you have more than one house, you travel for long periods of time or both, that can present a logistical dilemma. What can you do to make sure the house you want to sell legally qualifies as your primary residence?
That’s what a listener of the Clark Howard Podcast recently asked.
How Do I Make a Specific House My Legal Primary Residence?
How do I make sure the house I want to sell is my primary residence for the next two years?
That’s what a listener wanted to know on the Aug. 8 podcast episode.
Asked Michael in Colorado: “My wife and I will be retired in three years. We live in a mountain home in Colorado and have a rental property in Arizona (our former residence).
“At retirement, we would like to claim the Arizona home as our primary residence again for two years to sell it afterward without capital gains and recaptured depreciation. The Colorado home will become our vacation home for those two years.
“We plan on RV traveling a lot and won’t spend a lot of actual time in the Arizona home. How do we make sure we qualify it as [our] primary [residence] for those two years? With utility bills? Do we need to change our driver’s licenses and vehicle registrations to Arizona?”
In this case, getting as much of your life on paper in the state in which you’re intending to reside can only help.
“I think you do everything you can that’s a checkmark that shows that’s now your primary residence,” Clark says.
“Yes, I would go through the hassle, because the money at stake is so large. Go back to Arizona driver’s licenses, vehicle registrations, vehicle tags or plates, everything you can to make it clear you live there. Have you bills go there.
How Many Days Per Year Do I Need To Stay in the State of My Primary Residence?
States generally use the 183-day rule to determine whether you’re a resident for tax purposes.
Any part of a day counts toward that number. For example, if I have an early breakfast in Florida tomorrow before I fly to California for vacation, that still counts as one day residing in Florida.
Sometimes there are exceptions to the 183-day rule.
Some people take to keeping receipts from the state to show they were there. For example, someone may buy a coffee every day they’re in a certain state and keep the receipts.
If you’re constantly traveling in an RV as Michael is talking about, getting to that 183-day limit may be more challenging. And even with a driver’s license, vehicle registration, vehicle license plates in Arizona as well as all paper bills mailed to Arizona, it could be an issue.
“If you are ever challenged, and you’re talking about you’d be traveling in an RV all the time, and in an audit, if they were ever trying to say that was not a valid personal residence, what would count against you is you would not be able to clearly demonstrate nights in Arizona in those two years,” Clark says.
“If you’re constantly on the road in the RV and you’re really not spending much time in Arizona, it’s possible you’d be challenged on it.”
Home Sales, Taxes and Depreciation
Back to one other small detail that Michael mentioned: depreciation as it relates to home sale taxes.
“The way you said it, I’m not sure if you follow,” Clark says. “You will pay depreciation tax. If you’ve depreciated, you’re going to pay a 25% tax on the portion of the home you’ve depreciated.
“But the remainder will be subject to the exemption, the quarter million or $500,000.
“So you can do it but it’s not a completely free lunch. Because if you’ve been depreciating the property as an investment property, you will have a recapture tax at the time of sale.”
Tax laws of all sorts can get complicated. But if you want to exempt at least $250,000 in profits from the sale of your home, it must have been your primary residence in at least two of the last five years.
Do everything you can to make sure all official paperwork related to your vehicles and all your bills are going to that state and the address of that house. Still, you technically need to be in that state at least 183 days of the year for it to count.