Summer Moves and Taxes: Unlocking the IRS Exclusion for Home Sellers

Many people choose summer as “moving season” to sell their property and transition into a new chapter of their lives. However, along with the excitement of relocating, it is essential to recognize the tax consequences of selling a home, particularly regarding recent modifications to how forgiven mortgage debt is treated.

Fortunately, homeowners can take advantage of an IRS exclusion that removes all or a portion of the capital gain from their taxable income. This article outlines the guidelines and requirements necessary to maximize this tax benefit, including the updated rules for canceled mortgage debt.

Home Sale Exclusion: Ownership and Use Tests

To be eligible for the home sale exclusion, taxpayers must meet both the ownership and use tests.

To qualify, during the five-year period leading up to the sale, the homeowner must have:

• Owned the property
• Lived in the home as their primary residence for at least two years

Capital Gains on Selling Your Home

Homeowners who sell their primary residence for a capital gain may be eligible to exclude up to $250,000 of the gain from their income when filing their tax return. For married taxpayers filing jointly, the exclusion amount doubles to $500,000.

If the entire gain is excluded, homeowners generally aren’t required to report the sale on their tax return unless they receive a Form 1099-S, Proceeds from Real Estate Transactions.

Home Sale Losses

If homeowners sell their main home for less than its original purchase price (resulting in a loss) that loss is not tax-deductible. Losses from the sale of a personal residence are generally not recognized for tax purposes.

Multiple Homes Not Eligible

Taxpayers who own more than one home can only exclude the gain on the sale of their primary residence. Any other home sales may be subject to tax on the gain realized. Keep this in mind if you’re considering selling more than one property this year.

Reporting Your Home Sale

Taxpayers who don’t meet the criteria to exclude the entire gain from their income must report the gain from the sale of their home on their tax return. Additionally, anyone who receives a Form 1099-S must report the sale, even if there’s no taxable gain. Accurate reporting is essential to avoid issues with the IRS.

Forgiven Mortgage Debt: A Key Rule Has Expired

This is worth paying close attention to if you’ve gone through a short sale, foreclosure, or loan modification.

In general, forgiven or canceled mortgage debt is treated as taxable income. Homeowners who’ve had mortgage debt forgiven, whether through a workout, foreclosure, or other circumstances, must typically report that amount on their tax return.

For years, an exception existed for qualified principal residence indebtedness: if the debt was discharged before January 1, 2026, or if a written agreement for debt forgiveness was signed before that date, homeowners could exclude the forgiven amount from income.

That exclusion has now expired. It was extended repeatedly over the years, but as of January 1, 2026, Congress has not renewed it again. Practically, this means:

• Debt discharged before January 1, 2026 (or via a pre-2026 written agreement) qualifies for the exclusion.
• Debt discharged on or after January 1, 2026 without an agreement is generally taxable.

This distinction impacts whether a current loan modification, short sale, or foreclosure results in taxable income next year. Because other exclusions like bankruptcy or insolvency may apply, consult a tax professional to review your situation.

Home Sale Exclusion Exceptions

The IRS provides exceptions to the standard ownership and use rules for certain individuals, including those with disabilities, specific members of the military or intelligence community, and Peace Corps workers. These individuals may qualify for reduced holding periods or additional flexibility, so consider checking your eligibility if you fall into one of these categories.

Understand the Tax Implications of Selling Your Home

Selling a home carries major tax implications. The home sale exclusion allows homeowners to exclude up to $250,000 ($500,000 for joint filers) of gain from taxation, provided they meet the ownership and use tests.

If your sale involves a short sale, loan modification, or debt forgiveness, please consult our team of tax professionals before filing, given the recent expiration of the mortgage debt forgiveness exclusion.