Many Americans hold onto US real estate while living abroad. With respect to prior homes, they may be aware of the $250,000 ($500,000 if married filing jointly) exclusion on the gain from a sale of a home in a qualifying transaction. The following general requirements must be met to qualify for the exclusion:

1. Person must have owned and occupied the home as a principal residence for at least 2 out of 5 years prior to the sale; and
2. During the two-year period ending on the date of the sale, the person did not exclude gain from the sale of another home.

Holding onto US Real Estate while Living Abroad

What is lesser known is the fact that any portion of the gain attributable to non-qualified use of the property is ineligible for the exclusion. Non-qualified use includes periods during which the property is not used as an individual’s principal residence (including when it is rented out, including while the owner is living abroad). The maximum exemption amount is reduced on a pro-rated basis

Let’s use a simplified example to illustrate. Jane Smith (a single taxpayer) buys a house for $100,000 on January 1, 2000. She lives in the house for five years, then moves abroad. On January 1, 2012 (seven years later), Jane returns to the U.S., and begins living in her house again. On January 1, 2014, she sells the house for $350,000 (at a gain of $250,000). Jane meets both of the above requirements. However, 7 of the 14 years she has owned the house falls under non-qualified use. Therefore, only half (or $125,000) of the maximum exemption amount applies. Jane will have to pay capital gains tax on $125,000.

There is one important exception to the non-qualified use rule. Non-qualified use does not include any portion of the 5-year period preceding the sale that is after the last date that the property is used as a taxpayer’s principal residence. In plain English, if you own a home and leave the US without selling the property, sell it within 3 years (and don’t move back into the home). That way, you qualify for the 2 years of 5 years requirements, and you will not be subject to a reduction in the maximum exemption amount.

For general information on US expat taxation, please read: US Taxes for Americans Living Abroad – Ultimate Guide.