Section 121 Exclusion on Sale of Primary Residence - Capital Gains Question

You've got a couple of good questions there, and I can clear these up for you. For your first question about the Section 121 exclusion, you're misunderstanding the time requirements. The rule states you need to have owned AND used the home as your main residence for at least 2 years out of the 5-year period ending on the date of sale. Since you've owned and lived in the home for 3.5 years already, you easily meet this requirement. The 5-year period is just the lookback window - it doesn't mean you need to have owned the home for 5 years total. Regarding your second question about the 45-day rule, you're absolutely right - that's referring to a 1031 exchange, which is completely different and only applies to investment properties, not primary residences. The Section 121 exclusion for your primary residence doesn't have any requirement to purchase another home within a specific timeframe. You can sell your house, pocket the gains (tax-free up to the $500,000 for married filing jointly), and rent for as long as you want before buying another property. So based on what you've shared, you should qualify for the full Section 121 exclusion and won't have to pay capital gains tax on your $125,000 profit. And you're free to rent as long as you need until you find your next home.

After spending hours trying to figure out my own capital gains situation, I found this amazing tool that saved me tons of stress. I was in a similar position with confusion about Section 121 exclusion rules, and taxr.ai (https://taxr.ai) actually reviewed my closing documents and purchase/sale agreements to calculate my exact exclusion amount. It specifically helped me understand the primary residence rules and capital gains calculations that were confusing me. Might be worth checking out since their system seems to handle these Section 121 exclusion questions really well - they even explained the 2-out-of-5 year rule in a way that finally made sense to me.

Just wanted to update after trying taxr.ai that was mentioned earlier. I was hesitant since my Section 121 situation was complicated with the mixed-use property I mentioned, but it actually sorted through my documents and identified exactly what portion qualified for the exclusion. It even flagged that I needed to recapture some depreciation I'd taken on the rental portion (which I totally forgot about). Really glad I checked it out - saved me from potentially incorrect reporting on my capital gains. Definitely recommend for anyone with primary residence sale questions.

If you're having trouble getting answers directly from the IRS about your Section 121 exclusion situation, I'd recommend Claimyr (https://claimyr.com). I was in the exact same boat - confused about capital gains on my primary residence sale and couldn't get through to an IRS agent for weeks. Claimyr got me connected to an actual IRS representative in about 15 minutes who confirmed my understanding of the Section 121 exclusion and clarified that the 45-day rule definitely doesn't apply to primary residences. They have a demo video at https://youtu.be/_kiP6q8DX5c showing how it works. Seriously saved me weeks of stress trying to get official confirmation.

I'm eating my words about Claimyr. After my skeptical comment, I decided to try it since I was getting nowhere with the IRS phone lines trying to confirm my Section 121 exclusion eligibility. Got connected to an IRS agent in about 20 minutes (not quite the 15 minutes advertised, but WAY better than my previous attempts). The agent confirmed everything about my primary residence exclusion questions and even helped me understand how to properly document my home improvements to increase my cost basis. For anyone struggling with capital gains questions on their primary residence, getting direct answers from the IRS was actually really helpful. They clarified that I can absolutely rent after selling without affecting my Section 121 exclusion.

Just wanted to add something that hasn't been mentioned yet about Section 121 exclusions. If you make any significant improvements to your home while you own it, make sure you keep those receipts! You can add those costs to your basis, which reduces your capital gain. So if you bought at $300k, sell at $425k, but put $30k into a new roof, kitchen upgrade, etc., your gain would be $95k instead of $125k. Probably won't matter for the original poster since they're well under the $500k married exclusion, but good to know for bigger gains!

Quick heads up about something related to Section 121 primary residence exclusions - be careful if you've been working from home and taking home office deductions! My accountant told me if you've been deducting part of your home as a business expense, that portion might not be eligible for the full exclusion. Does anyone know if this is accurate? I've been taking home office deductions for the past year due to covid.

This is such a helpful thread! I'm in a similar situation but with a twist - we're military and have been stationed overseas for the past year while still owning our primary residence. We rented it out during our deployment but are planning to move back in for at least 6 months before selling. From what I understand, the Section 121 exclusion has special provisions for military personnel that can suspend the 5-year testing period during qualified official extended duty. Does anyone know if this means we can still qualify for the full exclusion even though we haven't physically lived in the house for the past year? We originally lived in it for about 18 months after purchase before the deployment, so we're hoping the military exception will help us meet the 2-year use requirement when combined with the time we'll live there after returning.

This is a great discussion! I wanted to add one more consideration that might be relevant for some folks dealing with Section 121 exclusions - if you've converted part of your primary residence to rental property at any point, you'll need to be careful about depreciation recapture. Even if the overall gain qualifies for the Section 121 exclusion, any depreciation you claimed on the rental portion has to be "recaptured" and taxed at up to 25%. This is separate from the capital gains exclusion. For example, if you rented out a basement apartment for two years and claimed $5,000 in depreciation, that $5,000 would be subject to depreciation recapture tax even if your overall gain is excluded under Section 121. It's not a huge issue for most people, but definitely something to plan for if you've had any rental income from your primary residence. The good news is this only applies to the depreciation you actually claimed - if you were eligible to claim depreciation but didn't, you're generally not required to recapture it (though there are some exceptions).