February 23, 2021 Filed under
I have dealt with multiple matters where a taxpayer has sold a home and out of the blue, often a year or two after the sale, the IRS sends a notice informing the taxpayer that the total sales price of the home is being added to taxable income. This greatly and unexpectedly increases the income tax owed. The taxpayer is given the opportunity to rebut this IRS determination after the fact. But there is little or no audit or inquiry by the IRS in advance of the notice informing the taxpayer of the additional tax.
So what exactly is going on with the IRS taxation of home sales? Typically, when a taxpayer sells a house (or any other piece of real property), the title company handling the closing generates a Form 1099 setting forth the sales price received for the house. The 1099 is transmitted to the IRS. The taxpayer, who often does his or her own taxes, all too often doesn’t account for the 1099 when preparing the tax return. IRS matching programs review the return and the 1099s on file and determine the taxpayer failed to include the amount set forth on the 1099. The IRS sends the notice letter including the additional tax, with little audit or inquiry.
Why no audit? For 1099 matching programs, the IRS does not need to audit, but rather may send a notice letter to the taxpayer adding the 1099 to taxable income and giving the taxpayer the opportunity to respond after the fact. Typically, the IRS will send a notice in advance to give the opportunity to correct what the IRS believes is an incorrect tax return. But even a preliminary notice (for example IRS Notice CP2501) often comes as a tremendous surprise to the taxpayer who believes, often rightly, that the proceeds of the home sale are exempt from taxation.
Practice Point: The taxpayer should not ignore the IRS notice letter of additional tax but rather respond timely with legal citations as to why the sales proceeds do not constitute taxable income and also documents showing that the sales proceeds are not all taxable gain. For example, documents that show the taxpayer’s basis in the house.
In the next article I will discuss legal grounds for excluding proceeds for the sale of the personal residence. However, taxpayers who receive notice from the IRS that home sale proceeds are being included in income may contact Jared Le Fevre to discuss how to respond to the IRS to potentially exclude the gain from the sale of personal residence from income tax.
Jared M. Le Fevre is a tax attorney and partner in the Tax, Trusts and Estates Practice Group of Crowley Fleck PLLP. Mr.LeFevre represents taxpayers before the IRS, IRS Independent Office of Appeals, Tax Court, Federal District Court and state tax agencies throughout Montana, Wyoming, North Dakota, Idaho, and Utah. Mr.LeFevre is involved in federal and state and local tax audits, appeals, and tax resolution throughout these western states. Mr. Le Fevre also advises clients on the tax effects of business and real estate transactions.
