When Uncle Sam gave home owners a big tax break when they sell their homes for a profit, he left a few fuzzy areas in the law.

Those gray areas are clearer now -- just in time for figuring your 1998 taxes.

Signed Aug. 5, 1997, the Tax Payer Relief Act of 1997 says if you sold your principal residence on or after May 7, 1997, the first $500,000 (for joint filers, $250,000 for singles and couples filing separate returns) of gain is excluded from capital gains tax.

The home must have been your primary residence for at least 2 of the 5 years before the date of sale. The relief act also says you can use the new $500,000 exclusion once every two years. If you signed a contract to sell your home between May 7 and August 5, 1997, you can choose the old law's option of deferring the gain to the new property, the old law's age-55-or-over, one-time-$125,000-exclusion option, or the new law's exclusion.

Capital gains tax relief clarified

The tax relief act's confusing prorate provision allowed you to prorate the $500,000/ $250,000 exclusion if unforeseen events, such as a job change, illness, or some other hardship forced you to sell before you met the two-year time requirement.

But prorate what? The gain or the exclusion amount? The law wasn't clear.

This summer, along with overhauling the Internal Revenue Service, the Internal Revenue Service Restructuring and Reform Act gave the nod to the exclusion amount.

Say you are transferred to Boston after owning a home for just one year. You can keep half of the exclusion amount ($125,000 if you're single, $250,000 if you're married) because you met half the requirement to occupy your home for two years before you sell.

For example, if you and your wife bought a home in California's fast appreciating market 18 months ago, but now you're being transferred to Washington, D.C. and your gain on a luxury estate is $200,000.

Multiply three-fourths (18 months divided by 24 months) times the $500,000 statutory ceiling, and your maximum allowable tax-free exclusion comes to $375,000. You pay no federal taxes on the gain.

Still more clarification

Unfortunately neither the relief act nor the reform act helped taxpayers decipher a key ''effective date'' provision buried in the fine print.

The provisions could be especially helpful to people who want to sell their home tax-free, but don't qualify for the full exemption under the strict two-year minimum ownership rules on capital gains.

Tax experts say anyone who owned his or her home as of Aug. 5, 1997 can sell it and reap the full tax-saving benefits of the law without meeting the employment, health, or other, ''unforeseen circumstances'' test.

However, they must meet the ''principal residence and use'' requirement, and they must close before Aug. 6, 1999.

It's under Section 312(d)(3) of the 1997 act and it's designed to give homeowners two years to adjust to the new system of taxes on home sale profits.

Home safe home

Finally, the reform act offers additional relief -- related to taxes you don't pay. It prevents the IRS from seizing your home (and any other non-investment property you own that someone is using as a home) to obtain back taxes when the amount you owe, including penalties and interest, is $5,000 or less.

No matter how much you owe in back taxes, the IRS must exhaust all other administrative remedies and alternative payment options before it seizes your home sweet home.

Professional assistance

American Institute of Certified Public Accountants, 1211 Avenue of the Americas, New York, N.Y. 10036-8775; (212) 596-6200; fax, (212) 596-6213.

National Association of Enrolled Agents, 200 Orchard Ridge Drive, Suite 302, Gaithersburg, Md. 20878, (301) 212-9608; fax (301) 990-1611; e-mail naea1@cais.com.

Published: November 27, 1998

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