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I have lived in my home for less than the 24 months and might be foreclosed on. I lost my job in January, and cant make the mortgage payments. If they foreclose on me, can I qualify for the Reduced Maximum Exclusion?

Reduced Maximum Exclusion (per IRS manual)
If you fail to meet the requirements to qualify for the $ 250,000 or $ 500,000 exclusion, you may still qualify for a reduced exclusion. This applies to those who:
Fail to meet the ownership and use tests, or
Have used the exclusion within 2 years of selling their current home.
In both cases, to qualify for a reduced exclusion, the sale of your main home must be due to one of the following reasons.
A change in place of employment.
Unforeseen circumstances.

Unforeseen Circumstances
The sale of your main home is because of an unforeseen circumstance if your primary reason for the sale is the occurrence of an event that you could not reasonably have anticipated before buying and occupying that home. You are not considered to have an unforeseen circumstance if the primary reason you sold your home was that you preferred to get a different home or because your finances improved.
Specific event safe harbors. Unforeseen circumstances are considered to be the reason for selling your home if any of the following events occurred while you owned and used the property as your main home.
An involuntary conversion of your home, such as when your home is destroyed or condemned.
Natural or man-made disasters or acts of war or terrorism resulting in a casualty to your home, whether or not your loss is deductible.
In the case of qualified individuals (listed earlier under Qualified individual ):
Unemployment (if the individual is eligible for unemployment compensation),
I do have one of those ARM’s, but that’s not the reason. The payment has not jumped. The reason is because I lost employment, have had no money coming in and am insolvent 🙁

1 Thought on Reduced Maximum Exclusion question?
  1. Reply
    August 29, 2011 at 1:24 am

    In most cases of foreclosure there’s not going to be a taxable gain involved. Normally that would only happen if you had taken out a new mortgage on a home that was paid for or nearly paid for in full already.

    For example, if you bought a home for $ 200,000 with a $ 180,000 mortgage and the outstanding balance at foreclosure is $ 175,000 you’d have a non-deductible loss of $ 25,000 on the transaction so no gain would be involved. On the other hand, if you bought the home 40 years ago for $ 20,000 and took out a $ 150,000 mortgage three years ago to pay for a world cruise or to buy a vacation home and the balance at foreclosure was $ 140,000 you WOULD have a taxable gain of $ 120,000.

    A foreclosure does not explicitly fall within one of the event safe harbors in and of itself. You’d have to substantiate that it was not foreseeable at the time of purchase. If you had a conventional mortgage you may be OK on that. However if you had one of those terrible option ARMs with large amounts of negative amortization and no prospects for a significant increase in income once the option period expired the, IRS may take the tack that foreclosure WAS foreseeable in that case.

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