Tax Tips in an Improving Housing Market

Stimulus Considerations

Over the past several years there have been various homebuyer tax credits and programs offered to stimulate the housing market. Homebuyer tax credits and programs, while they are great when you can claim them, can also be a tax trap. Therefore, it is important that you know the taxation terms of the credit or program you qualify for, or used to buy your home. This means read (and remember) the fine print as these terms can impact your tax exposure and should be considered when tax planning and considering the purchase or sale of a home. Depending on your tax credit taken or qualified program, you may take a tax hit depending on when you decide to sell.

Profit Considerations

Regardless of whether you’re a buyer or seller, profit on the property is undoubtedly an influencing consideration when deciding to buy or sell your home. The primary tax concern is whether you will pay income taxes on the money you receive from the sale of your home. Your tax exposure depends on how you used the property, your actual selling price, and your cost basis (generally, the cost of the home).

Now that the housing market is showing some signs of improvement, if you’re selling your home you may just be lucky enough to actually profit from the sale of your primary residence. If you do profit from the sale of your home, and as long as it’s your primary residence, you may qualify to exclude from taxation up to $250,000 or $500,000 of the profit received, depending on your filing status. To qualify for the exclusion, you must meet both the ownership test and the use test.

Subject to some exceptions, generally you are eligible for the tax exclusion if, prior to the sale of your home, you have both owned your home and used it as your primary residence for a combined total of two years in the previous five years. You are not eligible for the exclusion if you excluded the profit from the sale of another home during the two year period prior to the sale of your home.

Loss Considerations

If you’re not yet optimistic about a housing market turnaround, you may need to act quickly if you want to adjust your payment terms or get out of your home that’s underwater. While a loss on your home is not deductible, cancellation of a debt generally is taxable and there are tax consequences you really need to consider now as these transactions take time to complete.

The Mortgage Debt Relief Act of 2007 was recently extended through the end of 2013 by the American Taxpayer Relief Act of 2012. The Mortgage Debt Relief Act of 2007 generally allows taxpayers to exclude income from the discharge of debt on their principal residence. Debt reduced through mortgage restructuring and mortgage debt forgiven in connection with a short sale, qualifies as excludable income. If you wait until 2014 to get out of your home or modify the payment terms, you may receive an unexpected tax hit by way of additional taxable income.