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Tax Law (Questions About Taxes)/Unforeseen Circumstances Exclusion from Gain


QUESTION: My question is whether I qualify for a reduced exclusion safe harbor under IRC section 121-3 where I failed to meet the ownership/use test because the sale of my flood damaged principal residence of thirteen years occurred more than three years from the date of the flood that caused us to move and buy a different home.

My wife and I lived in our principal residence for 13 years continuously until it was substantially damaged in a flood declared a presidential disaster in our area.  We received an insurance payout, but because we did not want to return to our flood damaged home in a town that was being placed on FEMA probation (potentially risking residents' ability to get flood insurance in the future) we applied the insurance money (an amount less than our cost basis) toward the mortgage and looked for a new home.  

We purchased a different home one year later and were under contract with a buyer for our flooded home around the same time, but the sale fell through when buyer discovered that Congress' new flood insurance reform act made flood insurance on the home cost prohibitive (approx. $10,000 unsubsidized annual rate).  We concluded no middle class buyer could ever afford such rates for a home with a pre-flood $180,000 fair market value, and so we accepted a FEMA buyout offer because the home qualified as "substantially damaged" under FEMA rules.  

We retained ownership of the home for the next two years while we awaited closing with FEMA, taking us past the three year anniversary of when the flood forced us out of the home.   Literally one week beyond the three year anniversary, out of the blue, a wealthy New York City investor originally from our hometown offered a cash purchase of the house to prevent the destruction of the home.  

We sold the home to the private buyer and realized a gain (when factoring in the earlier flood insurance award).

At the time of sale, we had lived in the home for 23 out of the previous 60 months.  The flood and its many consequences prompted us to look for a new home and sell this one.  Additional unforeseen changes in the flood insurance laws significantly impaired our ability to sell the home within three years.  Do we qualify for the reduced exclusion safe harbor under these facts?  Thank you.


Thanks for your question.

Your situation is in the area that is referred to as "nonspecific events" meaning that the law does not make specific provisions for your situation.  However, environmental factors that detrimentally affect the quality of living in a particular locale are one type of nonspecific event that has received favorable treatment, and it could also be considered under unforeseen events.  While I cannot give you a definite yes or no, I can tell you that your position is likely to be acceptable to the IRS.

Hope this helps.

John Stancil, CPA

---------- FOLLOW-UP ----------

QUESTION: Thank you so much, John.  

May I first ask why our flood-induced sale would not qualify for the "specific event safe harbor" under section 1.121-3(e)(2)(ii)--natural disasters resulting in a casualty to the residence occurring during ownership and use of the residence as a principal residence?  In such an event, the subsection provides, a subsequent sale is automatically deemed to be by reason of unforeseen circumstances within the meaning of paragraph (e)(1) of the same section.  That is to say, the natural disaster is presumed to be the primary reason for the sale, in satisfaction of the requirements of paragraph (b).  Indeed, paragraph (b) "Primary reason for sale or exchange," states "If a safe harbor described in this section applies, a sale or exchange is deemed to be by reason of ... unforeseen circumstances."  Therefore, the six factors listed in paragraph (b) as relevant to determining the taxpayer's primary reason for the sale--which include the proximity in time between the sale and the circumstances giving rise to the sale--do not apply to the safe harbor case.

Also, Section 1.121-3 is not limited by its language to premature sales.  Subsection 1.121-3(a) provides, generally, that a reduced maximum exclusion limitation may be available on a sale of a principal residence where a taxpayer fails to satisfy the ownership and use requirements described in section 1.121(b).  Nothing in this subsection limits its application to instances where taxpayer had not yet reached two years of ownership and use at the time of the sale.  Had Congress intended to so limit the subsection, I would think it could have easily written that the reduced exclusion "may be available for a taxpayer who sells [a]... principal residence BEFORE the ownership and use requirements are satisfied."  It didn't write this.  Instead, it chose the broader "taxpayer who sells [a] ... principal residence but fails to satisfy the ownership and use requirements...."  This broader version allows for instances where the sale fails the use/ownership test because it occurs more than three years after having last used/owned the residence, as was my case.

Finally, even if all surrounding circumstances and factors are considered in a safe harbor case--which, I don't think is actually true?--I would still think my sale would be construed as being primarily by reason of a flood resulting in a casualty to the residence.  In addition to the facts already described in my first post, we had never attempted to sell our home before the flood, decided against returning to it a month or two after, and never attempted to put the home to any other use--it remained an empty shell on the first floor.  I would think these facts show that the sale--even though greatly delayed by other unforeseen circumstances--was nonetheless "primarily by reason of" the flood.

Thank you for considering my follow-up.

I agree with all that you say.  However, the nonspecific event I was referring to was the circumstances surrounding the disposition of the sale - the fact that it took place so long after the flood.  I still think you have a good case and will likely prevail.  But the intervening factors may play a factor.

Hope this helps.

John Stancil, CPA

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John Stancil, CPA


I can answer questions on personal income taxes, partnerships, and some corporate income taxes. I can deal with some state tax questions. Limited gift and estate tax questions. I am also familiar with ministerial and church tax reporting issues. I am Professor Emeritus at Florida Southern College. Sales taxes and property taxes are state and local issues so I am not likely be be able to give you an in depth answer on those types of taxes. I have maintained a CPA practice, specializing in tax, for over 35 years. I am a member of the National Association of Tax Professionals, The Florida Insititute of CPA's, The NCPE Fellowship. In addition I am a Certified Mentor for SCORE. Visit my website at I also offer seminars and consultations to churches and clergy on their tax issues at Also visit my blog, I am listed on Tax Connections at Prepare and file your own taxes at


I hold a doctorate in Accounting, and am a CPA. My certifications of CIA, CFM, and CMA are inactive. I passed all certification examinations on the first attempt, and received honorable mention for my scores on the CIA exam. I have operated a CPA firm for over 37 years and have taught accounting and tax at the college level for over 35 years.

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The CPA Journal, Florida CPA Today, Green Consumer, Green Business, Global Sustainability as a Business Imperative, Palmetto Review, NATP TaxPro Quarterly, Mustang Journal of Finance and Accounting.

DBA University of Memphis MBA University of Georgia BS in Accounting Mars Hill University

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