New IRS Tax Rules Will Have Negative Tax Consequences For Investors

With the housing slump being as bad as it is, you would think our government would try to provide incentives for investors and buyers of second homes to help reduce the massive inventory of homes. Instead, new IRS rules are making it less tax friendly to profit from the sale of a second home or rental property. As of January 1, 2009, due to a provision of the Housing Assistance Act of 2008, owners of 2 or more properties will reap far less profit when selling their second home or investment property. As it was before, and as it stands now, owners may still sell their primary residences and not pay any capital gains on up to $250,000 of profit (if single) or $500,000 of profit (if married) if they have lived in their home for 2 of the last 5 years before the sale. This is known as the Primary Home Sale Exclusion. The old rules would allow you to sell your primary residence tax free up to the fore mentioned limits and move into your second home or investment property (for 2 years) making it your new primary residence which when sold, would allow the same tax benefits your previous primary residence offered. Technically, under the old rules, you could move into each investment property you own for a period of 2 years per property and sell them at a profit of up to the 250k & 500k profit limits without paying a dollar in capital gains. Sadly, those days are over.

As of January 1, 2009, second homes and investment properties that you later move into and convert to a primary residence will now be subject to capital gains tax on the percentage of time the house was owned by you but wasn't considered your primary residence. For example, if you owned a second home or rental property for 10 years and you converted it to a primary residence during the last 5 years of the 10 year ownership and you sell the home at a $100,000 profit, you will now have to pay capital gains on 50% of the profit since half the time you owned it, it wasn't your primary residence. Example 2: You owned the rental property for 10 years but only lived in it the last 2 years. You would have to pay capital gains on 80% of the the profit since it was your primary residence only 20% of the time you owned it before selling it.

Why is the government doing this you might ask. It's simple...MONEY! The old rules kept millions of dollars out of the hands of the U.S. Treasury every time an investment property or second home was converted into a primary residence for 2 years and then sold. This new rule is estimated to put Approx. 1 1/2 billion in the hands of the treasury over the next 10 years according to the Senate Finance Committee.

Do you think this new IRS rule will help or hurt the housing market? Post your comment by clicking on the link at the bottom of this blog post.