The Foreign Service Journal, January-February 2023

THE FOREIGN SERVICE JOURNAL | JANUARY-FEBRUARY 2023 63 An exclusion of gain for a fraction of these upper limits may be possible if one or more of the above requirements are not met. Taxpayers who sell their principal residence for a profit of more than $250,000 ($500,000 for MFJ) will owe capital gains tax on the excess. Additionally, capital gain attributed to periods of nonqualified use cannot be excluded under IRC Section 121. AFSA recommends Topic 701, Publication 523, IRC Sec. 121, and related regulations. Military Families Tax Relief Act of 2003 According to the Military Families Tax Relief Act of 2003 (which AFSA was instrumental in enacting), the five-year period to qualify for the exclusion under IRC Section 121 may be suspended for members of the Foreign Service for up to 10 years during which the taxpayer has been on a qualifying Foreign Service assignment. This act also excludes periods of “qualified official extended duty” from nonqualified use treatment. In addition to the recommended reading from the previous section, AFSA recommends IRC Sec. 121(d)(9) and 26 CFR Sec. 1.121-5. Selling a Property That Was Previously Rented— IRC Section 1250 Taxpayers who sell a property that was used as a rental prop- erty at any time during the taxpayer’s ownership must reduce the property’s adjusted basis by the mandatory depreciation required during the rental period of the property (even if the taxpayer did not properly claim depreciation deductions) before calculating the final net taxable capital gain from the property sale. The portion of the net capital gain created from the mandatory depreciation (whether or not claimed during the rental period(s)) is taxed as IRC Section 1250 unrecaptured gain and is not eligible for capital gain exclu- sion under IRC Section 121. The portion of the remaining net capital gain is eligible for exclusion under IRC Section 121 if all requirements are met. Due to the impact of IRC Section 1250 unrecaptured gain rules, taxpayers who sell a property that was previously rented often still have a tax bill due even if they qualify to exclude a portion of their net capital gain under IRC Section 121. AFSA recommends Topic 701, Publication 523, IRC Sec. 1250, and related regulations. Non-Rental Business Use of Home Although most Foreign Service families find themselves in government-funded housing overseas much of the time, some may own property in the United States that they both occupy for personal purposes and use to operate a private business on the side. To qualify for a deduction for business-related expenses for a portion of a residence used for a business, a taxpayer must use a portion of their home exclusively and