The Foreign Service Journal, May 2003

claiming the exclusion on the basis of changes in employment, health or unforeseen circumstances. The primary reason for a sale or exchange is deemed to be a change in place of employment , for exam- ple, if: 1) the change in place of employment occurs while the tax- payer owns and uses a property as a principal residence and 2) the tax- payer’s new place of employment is at least 50 miles farther from the res- idence sold or exchanged than was the former place of employment — or, if there was no former place of employment, the distance between the taxpayer’s new place of employ- ment and the residence sold or exchanged is at least 50 miles. Section 1.121-3T)(c)(4) Example 2) of the revised tax code offers a hypothetical case: “B is an officer in the United States Air Force stationed in Florida. B purchases a house in Florida in 2001. In May 2002 B moves out of his house to take a three-year assignment in Germany. B sells his house in January 2003. Because B’s new place of employ- ment in Germany is at least 50 miles farther from the residence sold than is B’s former place of employment in Florida, the sale is within the safe harbor of paragraph (c)(2) of this section and B is entitled to claim a reduced maximum exclusion under section 121(c)(2).” Foreign Service employees would qualify for the same relief when transferred to a new post. The primary reason for a sale or exchange is deemed to be by reason of health if a physician recom- mends a change of residence for that purpose. (A sale or exchange that is merely beneficial to the general health or well-being of the taxpayer does not qualify, however.) The health safe harbor also includes a sale or exchange undertaken to obtain or provide medical or person- al care for a qualified individual (see description below) suffering from a disease, illness or injury. The newly available unforeseen circumstances category assists tax- payers who do not qualify under either of those provisions. The new regulations describe a variety of safe harbors potentially available should specific events take place during the taxpayer’s ownership and use of a residence as the taxpayer’s principal residence, including any of the fol- lowing: 1) the involuntary conversion of the residence (i.e., a governmental unit has condemned and seized a private property for public purpos- es); 2) natural or man-made disasters or acts of war or terrorism resulting in a casualty (i.e., physical damage) to the residence; and 3) in the case of a “qualified indi- vidual” (see description below), any of the following: a) death; b) loss of employment rendering the person eligible for unemploy- ment compensation; c) change in employment or self- employment status that causes the taxpayer to be unable to pay housing costs and reasonable basic living expenses for his or her household; d) divorce or legal separation under a decree of divorce or sepa- rate maintenance; and e) multiple births resulting from the same pregnancy. The IRS will allow any of these safe harbors to apply to events involving “qualified individuals,” a category that includes the taxpayer, the taxpayer’s spouse, a co-owner of the residence, a person whose prin- cipal place of abode is in the same household as the taxpayer, or certain other relatives of the taxpayer. This gives taxpayers greater flexibility than ever before, should an event involve a loved one or a person whose life is bound up with theirs, to sell their residence without having to pay capital gains tax. The safe harbor provisions are not open-ended opportunities to claim the reduced exclusion, howev- er. The cited events must take place “during the period of ownership and use of the residence as the taxpayer’s principal residence.” For example, a taxpayer getting a decree of divorce or separate maintenance who sells a residence before the decree has been issued would not qualify for the divorce safe harbor. Other Relief Even if a safe harbor does not apply to a taxpayer’s situation, he or she may still be able to obtain the reduced exclusion, either under a broad, pre-existing IRS ruling or through a private ruling due to “unforeseen circumstances,” as deter- mined by the Internal Revenue Commissioner, taking into account “all the facts and circumstances.” Under the new, temporary regula- tions, the IRS will consider the fol- lowing factors in making that determi- M A Y 2 0 0 3 / F O R E I G N S E R V I C E J O U R N A L 21 F S F I N A N C E S Foreign Service personnel who might qualify for a refund should consult their tax advisers immediately.