For most people, there is no doubt about whether their home is their primary, or principal, residence. If you live in your house year-round and have done so for years, your house is clearly your primary residence. But for some people, the question of whether a property they own is or is not their primary residence is a difficult question to answer. Take, for example, someone who splits their time between a home in New York and another in Florida, or a person who rents out their home while they live temporarily overseas.
Whether your home is your primary residence or not is significant if you've gone through a foreclosure because the federal law exempting borrowers from paying income tax on forgiven mortgage debt only applies to a borrower’s primary residence.
Even before the housing meltdown in the United States, the question of whether a home was a borrower’s primary residence was relevant for tax purposes. Homeowners receive a number of benefits under the U.S. tax code: the deduction from income of mortgage interest and property tax payments and the exclusion from capital gains of any increase in a home’s value when the home is sold. Yet the tax code fails to give a concrete definition of primary residence.
In one of its publications, the IRS defines principal residence as your “main home,” then goes on to define main home as follows: “Your main home is the home where you ordinarily live most of the time. You can have only one main home at one time.” Elsewhere, the IRS states that a main home can be a house, houseboat, mobile home, cooperative apartment, or condominium. Basically, as long as the home has a place for you to sleep, a bathroom, and a kitchen, it can be your primary residence.
The courts and the IRS have previously stated that whether a property is a borrower’s primary residence or not depends on the facts of each case. Facts that are relevant include where the borrower is a registered voter, the address on the borrower’s driver’s license, and where the borrower pays local or state income tax. And just because the borrower rents out the home does not necessarily mean the home is no longer the borrower’s primary residence.
If you've gone through a foreclosure, whether your home is your primary residence is significant primarily because of the 2007 Mortgage Debt Relief Act.
If you lose your home in a foreclosure sale or short sale and your lender forgives you for the deficiency (the difference between the outstanding mortgage debt and the sale price) in the calendar years 2007 through 2013, the cancelled debt does not have to be included in your taxable income so long as it is “qualified principal residence indebtedness.” The IRS defines qualified principal residence indebtedness as any mortgage you took out to buy, build, or substantially improve your main home, or primary residence. Other restrictions apply to this exclusion from taxable income under the 2007 Mortgage Debt Relief Act; for further details, see our article on Income Tax Liability for Deficiencies. (Congress is considering extending this tax protection beyond 2013, but whether it will actually do so is up in the air.)
If you are not quite sure whether your home is your primary residence or whether you qualify for tax relief under the Mortgage Debt Relief Act, consult with an attorney.