Specific Comments on the Proposed Section 121 Regulations
(Reg-105235-99; October 10, 2000)
May 1, 2001

II.  Reduced Exclusion and Unforeseen Circumstances

Background
If the 2-out-of-5-year ownership and use requirements are not satisfied, generally any realized gain upon sale or exchange must be recognized. Also, if, during the 2-year period ending on the sale or exchange date, there was any other sale or exchange to which the exclusion applied, no exclusion is allowed. However, an exception applies if the owner is forced to move, for example, because of a "change in place of employment, health, or, to the extent provided in regulations, other unforeseen circumstances" (Section 121(c)(2)). When a "forced" sale occurs, the maximum exclusion amount is adjusted to reflect the fraction of the 2-year ownership and use requirement that was satisfied. If there is more than one sale or exchange during a 2-year period, and the later sale is not a "forced" sale, the gain cannot be excluded under Section 121. Similarly, if the 2-out-of-5-year ownership and use requirements are not met and the sale is not a "forced" sale, any gain must be recognized.

The proposed regulations do not describe "other unforeseen circumstances." Instead, the preamble to the proposed regulations states that comments are requested regarding what should qualify as an "unforeseen circumstance for purposes of determining whether a taxpayer is eligible to claim the reduced exclusion" of Section 121(c).

Comments
“Unforeseen circumstances” should be broadly defined with a realistic view of the many reasons why an individual may have to sell a home prior to meeting the 2-year ownership and use requirement of Section 121. An investment in a home that serves as a principal residence is a significant investment of funds, time, and energy for most individuals. Such an investment usually involves a decision to remain at the home for a significant period of time. Where the home is sold after less than 2 years of ownership, there is usually an unexpected reason for doing so. In such situations, the owner is often unlikely to generate a gain from the sale due to the short ownership period and the costs of selling the home. However, in certain real estate markets, a gain may result. In light of the otherwise generous nature of Section 121, requiring an individual to pay capital gain taxes on top of the other costs of selling and moving and dealing with the personal issues that resulted in the need to sell the home, seems out of line with congressional intent. Thus, in drafting guidance on “unforeseen circumstances,” a broad view should be taken of the personal circumstances that may unexpectedly require an individual to sell a home owned for less than 2 years.

Recommendation: “Unforeseen circumstances” should be defined broadly to encompass the many types of personal situations that may cause an individual to sell a home unexpectedly. These circumstances should include divorce; breakup of a permanent relationship among co-owners of the home; health problems of any member of the household, broadly defined; care-giving responsibilities that require someone to move to be near, for example, an ill parent or child; safety or nuisance reasons; and relocation of a military employee.