WEBVTT

NOTE
This file was generated by Descript 

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Speaker: Welcome to Real Estate is Taxing,
where we talk about all things real estate

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tax and break down complex concepts into
understandable, entertaining tax topics.

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My name is Natalie Kalady, I'm
your host, and I am so excited

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that you've decided to join me.

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Microphone (Shure MV7)-1: Have you
ever pulled into the McDonald's drive

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through at 10 40 in the morning on a
Sunday to get McDonald's breakfast?

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Only to find out the location near
your house stopped serving breakfast

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at 10 30, you just missed it.

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And you were so sure you had
till 11 o'clock to get that.

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Amazing egg McMuffin.

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You've been thinking about all week.

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Imagine that feeling
times a thousand or more.

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That's what today's episode is about.

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And the best way I could think of.

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To describe the impact of when someone
thinks they are going to qualify.

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For the full 1 21 exclusion and have
up to a half million dollars tax free.

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Only to find out that the
timing or the way they executed

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it fell a little bit short.

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On today's episode.

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I'm going to walk you guys through several
different scenarios of the potential

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application of the 1 21 exclusion.

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And really point out the way a few
key, little bitty timing impacts.

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Can lead to either a partial exclusion
or in some cases, no exclusion at all.

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When this comes up, it is
obviously something that people

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are pretty upset to find out.

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So hopefully hearing this episode
ahead of time will prevent a few people

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from living through that experience.

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And maybe this episode will also
remind you to check the cutoff time

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for your egg McMuffin this weekend.

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You are the guardian of your own destiny.

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So let's get into things, manifest
it, and to make sure we are not

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missing these crucial timing cutoffs.

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Microphone (Shure MV7)-3: If you knew
me, you know, the 1 21 exclusion is

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a code section that I can talk about
for hours and hours and hours, there

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is so much unique complexity to it.

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For today's episode, we are just going to
break it down into a few simplistic parts.

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We're taking this at a thousand foot view.

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So that you can recognize the reason
why these situations we're going to

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walk through will or will not work.

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And you'll be able to see how these
small timing differences can create a

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huge difference in the taxable outcome.

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The 1 21 exclusion.

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Allows a taxpayer to exclude up to
$250,000 of gain or 500,000 if married.

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On the sale of their primary home, as long
as they have owned and occupied it for

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two out of the most recent five years.

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The first nuance to break out.

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That will relate to today's episode.

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Is those two out of five years are
actually a calculation to the literal day.

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So two years is actually 730 days.

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Five years is going to be 1,825 days.

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For simplicity, we're ignoring leap years.

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So it is a literal to the day calculation.

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That's why a slight misjudgment on when
you should move or sell, et cetera.

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Can have a huge impact.

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The next piece to be aware of
for today's episode is something

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called non-qualified use.

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In a nutshell, any time
when that primary home.

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Is used for something other
than being a primary home.

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Those years are considered.

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Non-qualified use.

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And the gain related
proportionately to those years.

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Typically can't be excluded
under the 1 21 exclusion.

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Now this code provision didn't
come into play until 2009.

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So any time of non-qualified
use before that.

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Doesn't count does not
come into play here.

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And there are also three key exclusions.

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To what is considered non-qualified use.

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The first one would be any rental use.

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That occurs after.

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The taxpayer's most recent use of
the home as a primary residence.

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The second exclusion.

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Is if someone is active duty military.

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They can have potentially
up to a 10 year gap.

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Due to being active duty.

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Where that time, where the home is rented
or not being used as a primary home.

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That does not count as non-qualified use.

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And the final exclusion.

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Is that a taxpayer can have up
to a two year temporary absence.

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That can be disqualified
from being non-qualified use.

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So if there's a temporary absence of.

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Two years or less.

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Due to a health circumstance or
a job related change or some kind

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of major unforeseen circumstance.

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That two year or less window also
does not count against the calculation

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for the gain as non-qualified use.

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Microphone (Shure MV7)-4: Now that
you are all filled in on the key

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items we need for today's episode.

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Let's run through these examples.

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In all of the examples I
am going to walk through.

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We are assuming that the taxpayer
originally buys this property to

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be a primary residence the day they
buy it, it is for the purpose of

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moving in and living in this house.

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So example one.

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Taxpayer purchases, the primary home.

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They own and occupy it for 730 days.

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And then.

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They decide to sell the residence.

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They have occupied it and
owned it for two years or more.

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That's 730 day mark.

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So in this scenario, they
would qualify for their full

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amount of the 1 21 exclusion.

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Situation too.

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The taxpayer purchases, a primary home.

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They own and occupy it for 720 days.

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And then they go to sell the home.

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Because they were shy
of that 730 day mark.

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The amount of exclusion they
qualify for is going to be $0.

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That two year minimum.

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Is required unless there's
an unforeseen circumstance.

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We're not getting into
that in today's episode.

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So if they just decided to sell because
they wanted to, there was no other reason.

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If they have only lived
in it for that 720 days.

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They don't get any part of an exclusion.

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There's no rounding.

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If they have only met that 720 day mark.

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Their entire gain is going to be taxable.

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There will be no 1 21 exclusion.

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Microphone (Shure MV7)-5: So
are you starting to see why

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these slight differences in a
calculation can have a huge impact?

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Let's get into a few more
tricky circumstances.

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In the next example.

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Let's say the taxpayer
purchases, a primary home.

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They own and occupy it for 750 days.

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They then move out and
rent it for 1000 days.

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That's 750 days gets them that two
year minimum of at least seven 30.

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And as long as they rent it
for no more than three years.

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They don't have any non-qualified use and
they still have their full 1 21 exclusion.

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Three years would be 1095 days.

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So in this example, because the taxpayer
did occupy for the minimum of 730 days.

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And then they did not rent it for any
more than three years or 1095 days.

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They can sell the home at the end of this
and receive their full 1 21 exclusion.

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The only thing that will be taxable.

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Is, they will have, do have
payback of the depreciation

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they took while it was a rental.

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There's going to be unrecaptured
1250 depreciation or some

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depreciation recapture.

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But otherwise.

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That circumstance allows
for a full 1 21 exclusion.

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The fact that it was a rental when
it was sold, doesn't impede that as

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long as those requirements were met
For the two years of minimum occupancy

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and then no more than three years
of rental use, they are good to go.

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Next circumstance.

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We have a taxpayer who owned an occupy.

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A primary home that they
purchased for 750 days.

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Just like the last example
we know we're good.

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We have more than two years.

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The taxpayer then moves out and
rents this property for 1500 days.

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Because they have now rented it.

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For more than three years,
they no longer have.

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Two years of qualifying
minimum use required.

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Within that five-year lookback window.

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Because they no longer have two
years within the five-year window.

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They now qualify for $0 of exclusion.

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There is no part of the
1 21 exclusion anymore.

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They have rented it for too long.

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And they lost that qualifying time.

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So again, Small timing differences,
huge impact on the taxable outcome.

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The next example.

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We have a taxpayer who
purchases a primary home.

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And they own and occupy it for 720 days.

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So they are just shy
of that two year mark.

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They move out and convert it to
a rental for a thousand days.

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So they did not rent it for
any more than three years.

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However, because they didn't meet.

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The core requirement of at least that
730 days of ownership and occupancy.

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They would receive.

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$0.

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Tax-free.

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Because they did not hit
that 730 day minimum.

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They do not qualify
for the 1 21 exclusion.

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And no part of their
sale will be tax-free.

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The followup question to this
scenario that I've heard more

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than once or seen question online.

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As well since they were only short
by 10 days, can the taxpayer.

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Moved back in to make up those 10 days.

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The answer is maybe.

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Let's look at how those potential
scenarios would play out.

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So we have the same
starting circumstances.

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Taxpayer purchases a primary home.

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They own and occupy it for 720 days.

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So they're still shy
of the 730 day minimum.

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They move out and rented
for a thousand days.

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So they have rented it
for less than three years.

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And then.

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The taxpayer moves back
into the home for 60 days.

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So now we have more than 730 days.

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Of primary use in the last five years.

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We also have.

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A total of 1,780 days of total ownership.

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So we haven't exceeded that
five-year lookback window.

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So we now have a combined total.

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Of 780 days of primary
use the original seven 20.

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And then the 60 more days
from when they moved back in.

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So we have more than two years.

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However.

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We now run into a caveat.

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If you remember from the beginning
of the episode, If there is use

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of a home where it's not being
used as a primary residence.

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It is non-qualified use.

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And the gain related to that
amount of time will be taxable.

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The exception to that.

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Is any rental use after.

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The most recent.

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Qualifying use as a primary resident.

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In this situation, we have more
than 730 days of primary use.

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However, the rental use that.

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1000 days of rental use.

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Occurred before.

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The most recent use of the
home as a primary residence.

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That rental use happened.

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Before they moved back in to get
that extra 60 days they needed.

00:13:36.538 --> 00:13:38.158
To hit the full two years.

00:13:38.818 --> 00:13:40.138
So now what happens?

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Now, what we have is a prorated gain.

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So because they do meet the requirements.

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This taxpayer does qualify now that they
have more than that two years out of five.

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They qualify for the 1 21 exclusion.

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However the time that it was
non-qualified the time of that thousand

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days of rental use in the middle.

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The gain related to that 1000 days.

00:14:08.888 --> 00:14:10.358
Cannot be excluded.

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That portion of the gain will be taxable.

00:14:13.898 --> 00:14:15.758
So 1000 days.

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Out of the total ownership of 1,780.

00:14:20.768 --> 00:14:23.138
Is going to be non-qualified use.

00:14:23.598 --> 00:14:25.608
What that means is when they sell.

00:14:26.088 --> 00:14:28.038
56% of the game.

00:14:28.338 --> 00:14:35.118
We'll be taxable and only that remaining
44% would qualify for the 1 21 exclusion.

00:14:36.048 --> 00:14:36.408
But.

00:14:37.428 --> 00:14:38.688
All things considered.

00:14:39.198 --> 00:14:42.078
Are they still ending
up in a better scenario?

00:14:42.528 --> 00:14:45.348
Than if they had not
moved back in for 60 days.

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Absolutely.

00:14:47.208 --> 00:14:49.638
If they hadn't moved back in for 60 days.

00:14:50.028 --> 00:14:56.238
They wouldn't have the 730 day
minimum requirement for occupancy.

00:14:56.628 --> 00:14:59.958
Meaning a hundred percent of their
gain would have been taxable.

00:15:00.858 --> 00:15:05.538
So again, Slight differences
in the way it plays out.

00:15:05.568 --> 00:15:10.128
I can have large impacts
on the taxable outcome.

00:15:10.828 --> 00:15:12.838
Let's look at the next example.

00:15:13.798 --> 00:15:16.798
We have a taxpayer who
purchases a primary home.

00:15:17.428 --> 00:15:21.088
They own and occupy it for 720 days.

00:15:21.508 --> 00:15:23.518
So we're just shy of that two year mark.

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They move out and they
rent it for 1100 days.

00:15:29.848 --> 00:15:34.978
In this scenario, can the taxpayer moved
back in just like the last example?

00:15:34.978 --> 00:15:38.278
Can they move back in to
get that 10 more days?

00:15:38.308 --> 00:15:38.998
They need.

00:15:39.328 --> 00:15:41.548
To meet the two year requirement.

00:15:41.578 --> 00:15:43.468
They need 730 days.

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They are 10 days short.

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In this case.

00:15:47.408 --> 00:15:48.638
The answer is no.

00:15:49.338 --> 00:15:50.508
The difference here.

00:15:50.928 --> 00:15:54.048
Is the 100 additional days of rental use.

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Microphone (Shure MV7)-6: If we are
starting out with 720 days of primary use.

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And we have 1100 days of rental use.

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If we add 10 more days, we end up
being beyond the 1,825 day window

00:16:11.788 --> 00:16:14.128
for that five-year look back.

00:16:14.698 --> 00:16:17.758
If we have 720 days.

00:16:18.088 --> 00:16:23.368
Plus 1100 days, we're already at 1,820.

00:16:24.028 --> 00:16:30.988
So if the taxpayer were to move back in
for 10 more to get above the 730 days.

00:16:31.588 --> 00:16:36.088
They have now also lapsed
that five-year look back.

00:16:36.748 --> 00:16:41.878
So in this scenario, because there was
an extra a hundred days of rental use

00:16:42.268 --> 00:16:44.788
before they decided to move back in.

00:16:45.148 --> 00:16:48.058
To reach that 730 day minimum.

00:16:48.838 --> 00:16:53.518
They would fall out of the required
timeframe And they would receive.

00:16:53.908 --> 00:17:00.028
No amount of 1 21 exclusion,
their gain would be fully taxable.

00:17:00.728 --> 00:17:03.428
Microphone (Shure MV7)-7: Again,
I can't reiterate this enough.

00:17:04.058 --> 00:17:07.898
Super small nuances when it
comes to this code section.

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Can have dramatically different outcomes.

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I know this is a little bit of a hard
episode to follow along, listening to,

00:17:17.438 --> 00:17:21.518
and at some point I will put this all into
something more visual, because I think

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it'll be easier to follow along with.

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I just really want to get some
of these really common, but

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slightly varied examples out there.

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'cause I don't think people realize how
quickly something can go from no tax being

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paid on a half million dollars to the
entire half million dollars being taxable.

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Let's get into the last
two examples I have.

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And we're going to try to end
things on a more positive note.

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So for this example, The taxpayer
purchases that primary home they

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own and occupy it for 720 days.

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So they are just shy
of that two year mark.

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They move out.

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And rent the home for 700 days.

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The reason they are renting the
home for that 700 day period.

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Is because the taxpayer is
temporarily in another state

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to receive medical treatment.

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So while they're in that other
state, they're renting the home.

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When they are done with their treatment.

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They move back and they live in the home
for 60 days before they decide to sell.

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Again, if we think back to the
very beginning of the episode.

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The third exclusion to non-qualified use.

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Is a temporary absence of
no more than two years.

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Due to a health reason or a work-related
reason or a unforeseen circumstance.

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So in this scenario, even
though we have 700 days of

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rental use better in the middle.

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I have two different
primary use timeframes.

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Because it is less than
two years of an absence.

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And it is due to a health-related reason.

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Those 700 days.

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Do not count as non-qualified use.

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This means that this taxpayer
now has over 730 days.

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Of primary use.

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So they meet that two year requirement.

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And they don't have any non-qualified
use because it met one of the exceptions

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because it was a temporary absence.

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So when this taxpayer goes to sell
this home, They would still qualify

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for their full 1 21 exclusion.

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Another reason.

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I like putting these
unique examples out there.

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Is for the tax professionals listening.

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It's really easy to assume that if someone
has these gaps where a property is rented,

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or if they have to sell it before the
two year mark, et cetera, to default to

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assuming those will create taxable events.

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But there's quite a few nuances
where that might not be the case.

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So the example we just covered was
really similar to an earlier one.

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Where, because the taxpayer had lived in
the home for just shy of two years, then

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they rented it for less than three years.

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And then they moved back in
so that they could hit that

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two year minimum of occupancy.

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In that case they had non-qualified
use making the gain for

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those middle years taxable.

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In this case.

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Same situation, but because the
absence, when it was rented, Was

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created due to a temporary qualifying
absence for a medical reason.

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That time is not non-qualified use.

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And in this circumstance, they would
still receive the full 1 21 exclusion.

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Final example, and I promise
this is as tricky as we will get.

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We have a taxpayer who
purchases a primary home.

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And they own and occupy it for 750 days.

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So they've hit.

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At least 730 days, they have
met that two year requirement.

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This taxpayer moves out and
rents the home for 700 days.

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Because they are at another
state due to medical treatment.

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So while they're out of state, For
this medical related temporary absence.

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They are renting the home.

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Because that is a medical related
absence of no more than two years.

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That does not qualify
for non-qualified use.

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We are all good there.

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After their medical treatment, the
taxpayer moves back into the house.

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And they occupy it for a thousand days.

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Because they have now reached
a thousand days in the most

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recent five-year lookback window.

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They have at least two years again.

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We're still good.

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We have not timed out from going
beyond a five-year lookback.

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And we have at least two years of primary
use within the most recent five years.

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And that prior 700 days of rental use.

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Is also not counting against them because
it was a qualified, temporary absence.

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So the current fact pattern is.

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Little more than two years of primary use.

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Less than two years of rental use,
but it was due to an exception.

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So it does not create, non-qualified use.

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And then we have over
two years of primary use.

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Again, they moved back
in for a thousand days.

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After living in the home for that
thousand days after they moved back in.

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They decide to rent it.

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They move out and they rent
the home for a thousand days.

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Because this period of rental use.

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Is no more than three
years within the last five.

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And this period of rental use occurred.

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After their most recent period
of qualifying primary use.

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It is also an exception
to non-qualified use.

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Okay.

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So this is an example where
a taxpayer lived in a primary

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home for a couple of years.

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Rented that home for a couple of years.

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Moved back in for a few years.

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Rented it for a few years.

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And even with all of those
circumstances coming into play.

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When this taxpayer sells, they will
still receive their full 1 21 exclusion.

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Because both of the periods of rental use.

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Meet an exception.

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To being defined as non-qualified use.

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So this taxpayer in this circumstance
would have the full 1 21 exclusion.

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And the only tax they would have would
be paying back any depreciation from

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during those rental years, So I know
today's episode was kind of a lot.

00:24:17.678 --> 00:24:20.498
It might be something you have
to listen to more than once.

00:24:20.558 --> 00:24:24.008
I know it's not the best as an
audible experience, and I hope

00:24:24.008 --> 00:24:27.428
to have it in something a little
more visual for you guys soon.

00:24:28.148 --> 00:24:30.818
But hopefully it got some
wheels turning for you.

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Or maybe there's someone out there who
got to hear this, and it is stopping

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you from moving too soon or selling
too late, whatever the circumstances.

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And overall, I just hope it's
made people a little more aware.

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Of how these tiny changes in the
timing and the circumstances in

00:24:50.138 --> 00:24:53.138
connection to the 1 21 exclusion.

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Can make all of the difference.

00:24:56.078 --> 00:24:59.168
Between something being
completely tax-free.

00:24:59.588 --> 00:25:03.698
Partially taxable or completely taxable.

00:25:04.388 --> 00:25:09.038
Again, think back to that egg McMuffin
you're dreaming of on a Sunday morning.

00:25:09.398 --> 00:25:11.948
Showing up at the drive-thru
10 minutes too late.

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Multiply that feeling by a thousand.

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That's how it would feel to barely miss.

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All of this money being tax-free.

00:25:21.818 --> 00:25:23.918
Because you miscalculated the timing.

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That's what I have for you guys today.

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I want to hear your thoughts.

00:25:28.188 --> 00:25:34.278
If you have run into a situation
related to a 1 21 exclusion, if you

00:25:34.278 --> 00:25:38.688
know someone that you think is going
to benefit from realizing these

00:25:38.688 --> 00:25:41.028
specific timelines, they need to meet.

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If there's any story you have in
connection to selling a primary

00:25:46.518 --> 00:25:51.138
home and having something unexpected
happen, I would love to hear about it.

00:25:51.378 --> 00:25:52.818
Find me on social com.

00:25:52.848 --> 00:25:55.908
Add me on Instagram at R E tax strategist.

00:25:56.608 --> 00:25:58.768
Microphone (Shure MV7)-8: I've
always, I hope that you gained

00:25:58.768 --> 00:26:00.988
some value from today's episode.

00:26:01.558 --> 00:26:05.308
And I just want to take a second
to say how appreciative I am to

00:26:05.308 --> 00:26:09.748
everyone who has been listening to
the show and shared their kind words.

00:26:10.258 --> 00:26:12.688
Left a good review or
shared it with friends.

00:26:12.688 --> 00:26:14.188
So you guys mean the world to me.

00:26:14.758 --> 00:26:18.268
If there is a topic that you
have questions on or that you

00:26:18.268 --> 00:26:19.768
would like to hear me cover.

00:26:20.338 --> 00:26:24.808
Again, find me on social media,
Ari tech strategist on Instagram.

00:26:25.168 --> 00:26:26.338
Send me a message.

00:26:26.518 --> 00:26:28.828
Share the topic you
want to hear more about.

00:26:29.338 --> 00:26:32.518
And as always, I will
talk to you next week.

00:26:33.119 --> 00:26:35.358
Mhm.