Different River

”You can never step in the same river twice.” –Heraclitus

January 2, 2006

Tax Benefits for “Shacking up”

Filed under: — Different River @ 3:09 pm

Apparently, the IRS — or maybe the Congress that wrote the tax law; it’s unclear in this case — thinks it’s a good idea for couples to live together before they get married. Such a good idea, in fact, that married couples who lived together before they got married get a tax benefit not available to married couples who wait to live together until they get married. In fact, by marrying without living together first, one can even lose a tax benefit one would have had by remaining single!

Here’s the story: If you sell a house that’s your primary residence for more than you paid for it, you don’t have to pay tax on the first $250,000 of gain if you are single, or the first $500,000 if you are married (filing jointly). However, there are requirements for defining “primary residence,” and also, you can only take the exclusion once every two years, regardless of your marital status at each point in time.

Now, here’s the benefit for illicit co-habiters:

Either spouse can meet the ownership test. For example, the IRS says it’s OK if you owned the home for the last two years, but you just added your new husband to the title when you got married six months ago. Since you owned the residence for the requisite time, as joint filers you have no problem meeting the ownership test even though your husband wasn’t an official owner for that long.

However, both husband and wife must pass the use test; that is, each must live in the residence for two years. But the shared use doesn’t have to be while you file jointly. If you and your now-husband shared the home for 1½ years before tying the knot and then six months as newlyweds, the IRS will allow you to claim the exemption. But if he didn’t move in until the wedding day, you’re out of tax-exclusion luck.

Furthermore, marrying can deprive you of the exemption altogether, if you marry someone who’s “done it” before (i.e., sold a house within the last two years — what were you thinking?):

And while you’re learning about your new spouse, make sure you find out all about his or her previous home-sale history. “The two-year eligibility rule applies to both spouses, so full home disclosure is another financial area you need to consider when getting married,” says Trinz. “You need to find out what you’re getting.”

Right. So in addition to making sure your future spouse didn’t fool around with other people before getting married (and pick up any diseases), you have to make sure he/she didn’t fool around with any real estate agents and pick up any home-sale tax exclusions!

Under this couple requirement, if either spouse sold a home and used the exclusion within two years of the sale of any jointly-owned property, the couple can’t claim the exclusion. That means if your new husband sold his townhouse a month before the wedding, then you’ll have to wait two years after that property’s sale date before you can dispose of your shared marital residence tax-free.

So if you marry the “wrong person,” you lose the $250,000 exemption you would have had if you stayed single (with or without co-habiting). But if you marry the “right person,” your exclusion doubles immediately — provided you co-habited that person for at least two years first!

Remember this next time someone tried to convince you that the tax code encourages “traditional marriage” …

5 Responses to “Tax Benefits for “Shacking up””

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  4. Jason Says:

    Can you answer a similar question for me? and give me a reference to the tax code, if possible?

    If a couple both owns their own houses and then gets married (still undecided at which house they will still be living and/or how many nights each may spend at both due to travel/work/etc), then can they file separately and have 2 separate “primary residences” and get the tax benefit (writing off mortgage interest and taxes) on both houses (e.g. House 1 on husband’s taxes and House 2 on wife’s taxes?). And then if there is a sale that happens, then I am guessing that at that point, only the person who is the “owner” will be able to get the 250K (e.g. can’t combine and make it 500K).

    Is there a quantitative analysis? (e.g. 183 days?) if so, what if they split their time, 180 nights together at house 1 and 180 nights together at house 2, then Husband (owner of house 1) sleeps by himself in H1 for the last 6 nights of the year and Wife (owner of house 2) sleeps by herself in H2 those same 6 nights? then H slept in H1 for 186 nights and W slept in H2 for 186 nights – can they have the separate “primary” residences? do they have to file separately?

  5. Different River Says:

    I’m not a tax expert, so I can’t give a reference to the tax code, but I am under the impression that anybody can take the mortgage interest deduction for two houses, regardless of how they file, and that property tax is always deductible, whether it’s for a residence or not.

    Again, I’m not a lawyer, not an enrolled agent, not a tax advisor, etc., so ask someone who is one of those things.

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