Table of Contents
New rule for employees of the intelligence community. If you are an employee of the intelligence community, you may be able to exclude from income a gain from selling your main home, even if you did not live in it for the required 2 years during the 5-year period ending on the date of sale. This choice applies to any sale of a main home after December 20, 2006. For more information, see Members of the uniformed services or Foreign Service or employees of the intelligence community , later.
Gulf Opportunity Zone Act of 2005 (Act). This Act provides tax relief for persons affected by Hurricanes Katrina, Rita, and Wilma. Under this Act, the rules for recapture of a federal mortgage subsidy have changed if you received a qualified home improvement loan (QHIL) funded by a qualified mortgage bond that is a qualified Gulf Opportunity Zone Bond or a QHIL for an owner-occupied home in the Gulf Opportunity Zone (GO Zone), Rita GO Zone, or Wilma GO Zone. For more information, see Recapturing (Paying Back) a Federal Mortgage Subsidy , later.
Credits affecting the basis of a home. If you claimed the nonbusiness energy property credit or the residential energy efficient property credit, you must decrease the basis of your home by the amount of the credit claimed. See Adjusted Basis , later. For more information about these credits, see also Form 5695, Residential Energy Credits.
Change of address. If you change your mailing address, be sure to notify the IRS using Form 8822, Change of Address. Mail it to the Internal Revenue Service Center for your old address. (Addresses for the Service Centers are on the back of the form.)
Home sold with undeducted points. If you have not deducted all the points you paid to secure a mortgage on your old home, you may be able to deduct the remaining points in the year of the sale. See Mortgage ending early under Points in chapter 23.
This chapter explains the tax rules that apply when you sell your main home. Generally, your main home is the one in which you live most of the time.
If you sold your main home in 2007, you may be able to exclude from income any gain up to a limit of $250,000 ($500,000 on a joint return in most cases). See Excluding the Gain , later. If you can exclude all of the gain, you do not need to report the sale on your tax return.
If you have gain that cannot be excluded, it is taxable. Report it on Schedule D (Form 1040). You may also have to include Form 4797, Sales of Business Property. See Reporting the Sale , later.
If you have a loss on the sale, you cannot deduct it on your return.
The following are main topics in this chapter.
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Figuring gain or loss.
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Basis.
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Excluding the gain.
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Ownership and use tests.
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Reporting the sale.
Other topics include the following.
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Business use or rental of home.
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Recapturing a federal mortgage subsidy.
Publication
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523 Selling Your Home
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530 Tax Information for First-Time Homeowners
Form (and Instructions)
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Schedule D (Form 1040) Capital Gains and Losses
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8822 Change of Address
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8828 Recapture of Federal Mortgage Subsidy
This section explains the term “main home.” Usually, the home you live in most of the time is your main home and can be a:
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House,
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Houseboat,
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Mobile home,
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Cooperative apartment, or
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Condominium.
To exclude gain under the rules of this chapter, you generally must have owned and lived in the property as your main home for at least 2 years during the 5-year period ending on the date of sale.
To figure the gain or loss on the sale of your main home, you must know the selling price, the amount realized, and the adjusted basis. Subtract the adjusted basis from the amount realized to get your gain or loss.
Selling price | |||
− | Selling expenses | ||
Amount realized | |||
Amount realized | |||
− | Adjusted basis | ||
Gain or loss |
The selling price is the total amount you receive for your home. It includes money; all notes, mortgages, or other debts assumed by the buyer as part of the sale; and the fair market value of any other property or any services you receive.
While you owned your home, you may have made adjustments (increases or decreases) to the basis. This adjusted basis must be determined before you can figure gain or loss on the sale of your home. For information on how to figure your home's adjusted basis, see Determining Basis, later.
To figure the amount of gain or loss, compare the amount realized to the adjusted basis.
The following rules apply to foreclosures and repossessions, abandonments, trades, transfers to a spouse, and involuntary conversions (such as when your home is destroyed or condemned).
Example.
You owned and lived in a home with an adjusted basis of $41,000. A real estate dealer accepted your old home as a trade-in and allowed you $50,000 toward a new home priced at $80,000. This is treated as a sale of your old home for $50,000 with a gain of $9,000 ($50,000 – $41,000).
If the dealer had allowed you $27,000 and assumed your unpaid mortgage of $23,000 on your old home, your sales price would still be $50,000 (the $27,000 trade-in allowed plus the $23,000 mortgage assumed).
You need to know your basis in your home to determine any gain or loss when you sell it. Your basis in your home is determined by how you got the home. Your basis is its cost if you bought it or built it. If you got it in some other way (inheritance, gift, etc.), its basis is either its fair market value when you got it or the adjusted basis of the person you got it from. See Publication 523 for a discussion of basis other than cost.
While you owned your home, you may have made adjustments (increases or decreases) to your home's basis. The result of these adjustments is your home's adjusted basis, which is used to figure gain or loss on the sale of your home. See Adjusted Basis , later.
You can find more information on basis and adjusted basis in chapter 13 of this publication and in Publication 523.
The cost of property is the amount you pay for it in cash, debt obligations, other property, or services.
Adjusted basis is your basis increased or decreased by certain amounts.
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Additions and other improvements that have a useful life of more than 1 year,
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Special assessments for local improvements, and
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Amounts you spent after a casualty to restore damaged property.
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Gain you postponed from the sale of a previous home before May 7, 1997,
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General sales taxes claimed as an itemized deduction on Schedule A (Form 1040) that were imposed on the purchase of personal property, such as a houseboat used as your home or a mobile home,
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Deductible casualty losses,
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Insurance payments you received or expect to receive for casualty losses,
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Payments you received for granting an easement or right-of-way,
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Depreciation allowed or allowable if you used your home for business or rental purposes,
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Residential energy credit (generally allowed from 1977 through 1987) claimed for the cost of energy improvements that you added to the basis of your home,
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Nonbusiness energy property credit (allowed beginning in 2006) claimed for making certain energy saving improvements that you added to the basis of your home,
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Residential energy efficient property credit (allowed beginning in 2006) claimed for making certain energy saving improvements that you added to the basis of your home,
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Adoption credit you claimed for improvements added to the basis of your home,
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Nontaxable payments from an adoption assistance program of your employer that you used for improvements you added to the basis of your home,
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Energy conservation subsidy excluded from your gross income because you received it (directly or indirectly) from a public utility after 1992 to buy or install any energy conservation measure. An energy conservation measure is an installation or modification that is primarily designed either to reduce consumption of electricity or natural gas or to improve the management of energy demand for a home, and
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District of Columbia first-time homebuyer credit (allowed on the purchase of a principal residence in the District of Columbia beginning on August 5, 1997).
Examples.
Putting a recreation room or another bathroom in your unfinished basement, putting up a new fence, putting in new plumbing or wiring, putting on a new roof, or paving your unpaved driveway are improvements. An addition to your house, such as a new deck, a sunroom, or a new garage, is also an improvement.
Recordkeeping. You should keep records to prove your home's adjusted basis. Ordinarily, you must keep records for 3 years after the due date for filing your return for the tax year in which you sold your home. But if you sold a home before May 7, 1997, and postponed tax on any gain, the basis of that home affects the basis of the new home you bought. Keep records proving the basis of both homes as long as they are needed for tax purposes.
The records you should keep include:
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Proof of the home's purchase price and purchase expenses,
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Receipts and other records for all improvements, additions, and other items that affect the home's adjusted basis,
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Any worksheets you used to figure the adjusted basis of the home you sold, the gain or loss on the sale, the exclusion, and the taxable gain,
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Any Form 2119, Sale of Your Home, that you filed to postpone gain from the sale of a previous home before May 7, 1997, and
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Any worksheets you used to prepare Form 2119, such as the Adjusted Basis of Home Sold Worksheet or the Capital Improvements Worksheet from the Form 2119 instructions.
You may qualify to exclude from your income all or part of any gain from the sale of your main home. This means that, if you qualify, you will not have to pay tax on the gain up to the limit described under Maximum Exclusion , next. To qualify, you must meet the ownership and use tests described later.
You can choose not to take the exclusion by including the gain from the sale in your gross income on your tax return for the year of the sale.
If you have any amount of taxable gain from the sale of your home, you may have to increase your withholding or make estimated tax payments. See Publication 505, Tax Withholding and Estimated Tax.
You can exclude up to $250,000 of the gain on the sale of your main home if all of the following are true.
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You meet the ownership test.
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You meet the use test.
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During the 2-year period ending on the date of the sale, you did not exclude gain from the sale of another home.
You may be able to exclude up to $500,000 of the gain on the sale of your main home if you are married and file a joint return and meet the requirements listed in the discussion of the special rules for joint returns, later, under Married Persons.
To claim the exclusion, you must meet the ownership and use tests. This means that during the 5-year period ending on the date of the sale, you must have:
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Owned the home for at least 2 years (the ownership test), and
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Lived in the home as your main home for at least 2 years (the use test).
Example 1—home owned and occupied for 3 years.
Amanda bought and moved into her main home in September 2004. She sold the home at a gain on September 15, 2007. During the 5-year period ending on the date of sale (September 16, 2002 – September 15, 2007), she owned and lived in the home for 3 years. She meets the ownership and use tests.
Example 2—ownership test met but use test not met.
Dan bought a home in 2001. After living in it for 6 months, he moved out. He never lived in the home again and sold it at a gain on June 28, 2007. He owned the home during the entire 5-year period ending on the date of sale (June 29, 2002 – June 28, 2007). However, he did not live in it for the required 2 years. He meets the ownership test but not the use test. He cannot exclude any part of his gain on the sale, unless he qualified for a reduced maximum exclusion (explained later).
The required 2 years of ownership and use during the 5-year period ending on the date of the sale do not have to be continuous.
You meet the tests if you can show that you owned and lived in the property as your main home for either 24 full months or 730 days (365 × 2) during the 5-year period ending on the date of sale.
Example 1.
David Johnson, who is single, bought and moved into his home on February 1, 2005. Each year during 2005 and 2006, David left his home for a 2-month summer vacation. David sold the house on March 1, 2007. Although the total time David used his home is less than 2 years (21 months), he may exclude any gain up to $250,000. The 2-month vacations are short temporary absences and are counted as periods of use in determining whether David used the home for the required 2 years.
Example 2.
Professor Paul Beard, who is single, bought and moved into a house on August 28, 2004. He lived in it as his main home continuously until January 5, 2006, when he went abroad for a 1-year sabbatical leave. On February 6, 2007, 1 month after returning from the leave, Paul sold the house at a gain. Because his leave was not a short temporary absence, he cannot include the period of leave to meet the 2-year use test. He cannot exclude any part of his gain, because he did not use the residence for the required 2 years.
Example.
In 1998, Helen Jones lived in a rented apartment. The apartment building was later changed to a condominium, and she bought her apartment on December 3, 2004. In 2005, Helen became ill and on April 14 of that year she moved to her daughter's home. On July 12, 2007, while still living in her daughter's home, she sold her apartment.
Helen can exclude gain on the sale of her apartment because she met the ownership and use tests during the 5-year period from July 13, 2002, to July 12, 2007, the date she sold the apartment. She owned her apartment from December 3, 2004, to July 12, 2007 (more than 2 years). She lived in the apartment from July 13, 2002 (the beginning of the 5-year period), to April 14, 2005 (more than 2 years).
The time Helen lived in her daughter's home during the 5-year period can be counted as a period of ownership, and the time she lived in her rented apartment during the 5-year period can be counted as a period of use.
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Owned the stock for at least 2 years, and
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Lived in the house or apartment that the stock entitles you to occupy as your main home for at least 2 years.
Example.
David bought and moved into a home in 1999. He lived in it as his main home for 2½ years. For the next 6 years, he did not live in it because he was on qualified official extended duty with the Army. He then sold the home at a gain in 2007. To meet the use test, David chooses to suspend the 5-year test period for the 6 years he was on qualified official extended duty. This means he can disregard those 6 years. Therefore, David's 5-year test period consists of the 5 years before he went on qualified official extended duty. He meets the ownership and use tests because he owned and lived in the home for 2½ years during this test period.
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You become physically or mentally unable to care for yourself, and
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You owned and lived in your home as your main home for a total of at least 1 year.
If you and your spouse file a joint return for the year of sale, you can exclude gain if either spouse meets the ownership and use tests. (But see Special rules for joint returns , next.)
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You are married and file a joint return for the year.
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Either you or your spouse meets the ownership test.
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Both you and your spouse meet the use test.
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During the 2-year period ending on the date of the sale, neither you nor your spouse excluded gain from the sale of another home.
Example 1 — one spouse sells a home.
Emily sells her home in June 2007. She marries Jamie later in the year. She meets the ownership and use tests, but Jamie does not. Emily can exclude up to $250,000 of gain on a separate or joint return for 2007. The $500,000 maximum exclusion for certain joint returns does not apply because Jamie does not meet the use test.
Example 2 — each spouse sells a home.
The facts are the same as in Example 1 except that Jamie also sells a home in 2007 before he marries Emily. He meets the ownership and use tests on his home, but Emily does not. Emily and Jamie can each exclude up to $250,000 of gain. The $500,000 maximum exclusion for certain joint returns does not apply because Emily and Jamie do not jointly meet the use test for the same home.
You can claim an exclusion, but the maximum amount of gain you can exclude will be reduced if either of the following is true.
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You did not meet the ownership and use tests, but the reason you sold the home was:
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A change in place of employment,
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Health, or
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Unforeseen circumstances (as defined later).
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Your exclusion would have been disallowed because of the rule described in More Than One Home Sold During 2-Year Period , later, except that the reason you sold the home was:
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A change in place of employment,
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Health, or
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Unforeseen circumstances (as defined next).
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Use Worksheet 3 in Publication 523 to figure your reduced maximum exclusion.
You generally cannot exclude gain on the sale of your home if, during the 2-year period ending on the date of the sale, you sold another home at a gain and excluded all or part of that gain. If you cannot exclude the gain, you must include it in your income.
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A change in place of employment,
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Health, or
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Unforeseen circumstances (as defined earlier).
You may be able to exclude gain from the sale of a home that you have used for business or to produce rental income. But you must meet the ownership and use tests.
Example 1.
On May 29, 2001, Amy bought a house. She moved in on that date and lived in it until May 31, 2003, when she moved out of the house and put it up for rent. The house was rented from June 1, 2003, to March 31, 2005. Amy moved back into the house on April 1, 2005, and lived there until she sold it on January 30, 2007. During the 5-year period ending on the date of the sale (January 31, 2002 – January 30, 2007), Amy owned and lived in the house for more than 2 years as shown in the following table.
Five Year
Period |
Used as
Home |
Used as
Rental |
||
1/31/02 –
5/31/03 |
16 months | |||
6/1/03 –
3/31/05 |
22 months | |||
4/1/05 –
1/30/07 |
22 months | |||
38 months | 22 months |
Amy can exclude gain up to $250,000. However, she cannot exclude the part of the gain equal to the depreciation she claimed or could have claimed for renting the house, as explained after Example 2.
Example 2.
William owned and used a house as his main home from 2001 through 2004. On January 1, 2005, he moved to another state. He rented his house from that date until April 30, 2007, when he sold it. During the 5-year period ending on the date of sale (May 1, 2002 – April 30, 2007), William owned and lived in the house for 32 months (more than 2 years). He must report the sale on Form 4797. He can exclude gain up to $250,000. However, he cannot exclude the part of the gain equal to the depreciation he claimed or could have claimed for renting the house, as explained next.
Do not report the 2007 sale of your main home on your tax return unless:
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You have a gain and you do not qualify to exclude all of it, or
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You have a gain and you choose not to exclude it.
If you have any taxable gain on the sale of your main home that cannot be excluded, report the entire gain realized on Schedule D (Form 1040). Report it in column (f) of line 1 or line 8 of Schedule D, as short term or long term capital gain depending on how long you owned the home. If you qualify for an exclusion, show it on the line directly below the line on which you report the gain. Write “Section 121 exclusion” in column (a) of that line and show the amount of the exclusion in column (f) as a loss (in parentheses).
If you used the home for business or to produce rental income, you may have to use Form 4797 to report the sale of the business or rental part (or the sale of the entire property if used entirely for business or rental). See Business Use or Rental of Home in Publication 523 and the instructions for Form 4797.
The situations that follow may affect your exclusion.
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You acquired your home in a like-kind exchange (also known as a section 1031 exchange); or your basis in your home is determined by reference to the basis of the home in the hands of the person who acquired the property in a like-kind exchange (for example, you received the home from that person as a gift), and
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You sold the home during the 5-year period beginning with the date your home was acquired in the like-kind exchange.
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Publication 547, Casualties, Disasters, and Thefts, in the case of a home that was destroyed, or
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Chapter 1 of Publication 544, in the case of a home that was condemned.
If you financed your home under a federally subsidized program (loans from tax-exempt qualified mortgage bonds or loans with mortgage credit certificates), you may have to recapture all or part of the benefit you received from that program when you sell or otherwise dispose of your home. You recapture the benefit by increasing your federal income tax for the year of the sale. You may have to pay this recapture tax even if you can exclude your gain from income under the rules discussed earlier; that exclusion does not affect the recapture tax.
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Came from the proceeds of qualified mortgage bonds, or
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Were based on mortgage credit certificates.
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Within the first 9 years after the date you close your mortgage loan, you sell or otherwise dispose of your home at a gain.
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Your income for the year of disposition is more than that year's adjusted qualifying income for your family size for that year (related to the income requirements a person must meet to qualify for the federally subsidized program).
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Your mortgage loan was a qualified home improvement loan (QHIL) of not more than $15,000 used for alterations, repairs, and improvements that protect or improve the basic livability or energy efficiency of your home.
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Your mortgage loan was a QHIL of not more than $150,000 for a QHIL used to repair damage from Hurricane Katrina to homes in the hurricane disaster area; a QHIL funded by a qualified mortgage bond that is a qualified Gulf Opportunity Zone Bond; or a QHIL for an owner-occupied home in the Gulf Opportunity Zone (GO Zone), Rita GO Zone, or Wilma GO Zone. See Publication 4492, Information for Taxpayers Affected by Hurricanes Katrina, Rita, and Wilma, for more information).
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The home is disposed of as a result of your death.
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You dispose of the home more than 9 years after the date you closed your mortgage loan.
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You transfer the home to your spouse, or to your former spouse incident to a divorce, where no gain is included in your income.
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You dispose of the home at a loss.
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Your home is destroyed by a casualty, and you replace it on its original site within 2 years after the end of the tax year when the destruction happened (within 5 years if the home was in the Hurricane Katrina disaster area and was destroyed by reason of the hurricane after August 24, 2005).
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You refinance your mortgage loan (unless you later meet the conditions listed previously under When the recapture applies ).
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