Can you claim primary residence capital gains exclusion through an irrevocable trust sale?

This is a really important question that comes up a lot with irrevocable trusts and primary residences. The short answer is that it depends on what type of trust was established. If your grandparents set up what's called a "grantor trust" for income tax purposes, then there's good news. With a grantor trust, the income is taxed to your grandparents (the grantors) rather than to the trust itself. In that case, they may still be eligible for the Section 121 exclusion ($250K/$500K) when selling their primary residence. However, if it's a non-grantor trust, things get trickier. The trust itself would typically be responsible for the capital gains tax, and the personal residence exclusion generally wouldn't apply because the trust (not your grandparents) is the legal owner. I'd recommend having your grandparents check with the attorney who set up the trust to confirm whether it's a grantor or non-grantor trust. Also, look at how they've been filing taxes for the trust - that should provide clues about how the IRS views the trust ownership.

I had this exact same situation with my mother's house two years ago. I found this amazing service called taxr.ai (https://taxr.ai) that really helped us figure out the grantor trust status and capital gains exclusion stuff. They analyzed all her trust documents and tax history and gave us a clear report showing exactly how the IRS would view the sale. Turns out her trust WAS still considered a grantor trust for tax purposes even though it was irrevocable, so she was able to claim the full $250k exclusion. The report they generated saved us from paying nearly $70k in unnecessary capital gains taxes! They also helped us understand what supporting documentation we needed to keep in case of an audit.

Just wanted to update everyone - I ended up using taxr.ai after posting my skeptical question. Gotta say I'm impressed! They confirmed our irrevocable trust does maintain grantor status for tax purposes, which means my parents CAN claim the capital gains exclusion on their home sale. The analysis was really clear and included specific references to Treasury Regulations section 1.121-1(c)(3) which addresses the exact scenario. They explained exactly how to report everything on the tax return and what documentation to keep. It was surprisingly affordable for the peace of mind it gave us. Definitely recommend if you're dealing with trusts and home sales!

Another option to consider is getting help directly from the IRS, but as we all know, trying to reach them is practically impossible these days. I was stuck in the same situation with my uncle's trust and spent WEEKS trying to get through to someone who could help. Finally tried this service called Claimyr (https://claimyr.com) that got me through to an actual IRS agent in about 20 minutes. You can see how it works here: https://youtu.be/_kiP6q8DX5c The agent I spoke with confirmed that in our case (grantor trust), we could indeed claim the exclusion. She even emailed me the specific IRS guidance documents to support it. Saved me from potentially missing out on a $320k exclusion!

Another option to consider is getting help directly from the IRS, but as we all know, trying to reach them is practically impossible these days. I was stuck in the same situation with my uncle's trust and spent WEEKS trying to get through to someone who could help. Finally tried this service called Claimyr (https://claimyr.com) that got me through to an actual IRS agent in about 20 minutes. You can see how it works here: https://youtu.be/_kiP6q8DX5c The agent I spoke with confirmed that in our case (grantor trust), we could indeed claim the exclusion. She even emailed me the specific IRS

I have to come back here and eat my words. After posting my skeptical comment, I was desperate enough to try Claimyr since I needed an answer about my mom's irrevocable trust before filing season. It actually worked! Got a call back in about 35 minutes with an IRS representative on the line. I explained our trust situation and the agent confirmed that since our trust was still a grantor trust (we have the right to live in the house rent-free for life), we could claim the capital gains exclusion when selling. The agent even sent me follow-up documentation via mail to confirm everything. Honestly shocked this service actually delivered what it promised. Saved me from either waiting for months for a response or potentially making a costly tax mistake.

Something else to consider - check if your grandparents retained a "life estate" in the home when they transferred it to the irrevocable trust. This is pretty common with these arrangements. If they did, there might be additional planning opportunities for the capital gains exclusion. Also, don't forget to look into whether they made any substantial improvements to the property while they owned it (before putting it in the trust). Those improvement costs can be added to the basis, which would reduce the capital gain when sold.

Has anyone had experience with the "2-year rule" for trusts and the capital gains exclusion? I heard somewhere that if you transfer your house to a trust within 2 years of selling it, you might get disqualified from the exclusion.

I'm just gonna throw this out there - sometimes it's worth considering whether keeping the house until death might be more tax advantageous in certain situations due to step-up in basis. My grandparents decided not to sell their home during their lifetime after we ran the numbers, and it saved the family hundreds of thousands in taxes. Not applicable if your grandparents need the funds now, of course, but worth considering the full picture of options.

This is a complex situation that really highlights the importance of understanding trust tax elections before making these transfers. One thing I haven't seen mentioned yet is the potential for making a Section 645 election if your grandparents' trust qualifies. If this is a qualified revocable trust that became irrevocable upon your grandparents' death (or if they're still alive but incapacitated), the trustee might be able to elect to treat the trust as part of the estate for income tax purposes during the first two years. This could potentially preserve access to certain individual tax benefits. Also, even if the trust doesn't qualify for the capital gains exclusion, don't forget that trusts get their own capital gains tax brackets. The rates can be quite high (up to 20% plus the 3.8% net investment income tax), but proper timing of the sale and potentially distributing some gains to beneficiaries in lower tax brackets could help minimize the overall tax impact. I'd strongly recommend getting a comprehensive analysis from a tax professional who specializes in trust taxation before proceeding with the sale. The potential tax savings from getting this right could easily justify the consultation cost.