Congress wants to help those who’ve lost their home to foreclosure. One bill that has passed in the House and is racing through the Senate would do just that by getting rid of what I call the “kick’em when they’re down” tax. Under current law, if a mortgage lender forgives some portion of a homeowners debt, the amount of debt forgiven is taxable as income to the homeowner. So not only does a family lose its home, presumably because of a financial crisis, but they end up owing thousands of dollars in income taxes to the IRS. Under the proposed bill, this income would no longer be taxable.
So how do those who own second homes fit into this equation? It’s called pay as you go or the “Paygo ” rule. The Democrats have implemented the Paygo rule, which means that all proposed tax cuts must be paid by either new tax increases or spending cuts. To pay for the proposed tax break, the House bill restricts the ability of a homeowner to avoid or reduce the tax bill on the sale of a second home.
Today, you can avoid taxes on the first $250,000 of gain from the sale of a home ($500,000 if married) so long as you have lived in the home as your primary residence for two of the last five years. A second home can become a primary residence under current law if the homeowners move in for the two year minimum requirement, which many folks do at retirement. The proposed bill would change all this. Instead of the two year requirement, the tax break would be tied to the percentage of time the second home was used as the primary residence. If you owned the second home for 10 years, five of which you used it as your primary residence, you’d be entitled to 50% of the tax exclusion.
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