What does primary residence mean?

Most people own only one home if they own a home at all. But if you own more than one home or are considering buying a second home, it becomes very important to understand the term primary residence. 

Since your taxes and mortgage interest rate depend on whether a home qualifies as a primary residence, a secondary residence, or an investment property, the right classification could save you — or cost you — a significant amount of money.

What is a primary residence?

The simplest definition for a primary residence is that it’s your home where you live. It could be a single-family house, a condo, a townhome, or something else — if you occupy the place for the majority of the year, it’s your primary residence in the eyes of your mortgage lender and the IRS.

If you own more than one home, it’s a little more complicated to identify a primary residence. According to the IRS, a primary residence is:

• Where you live the majority of the year
• Your legal address provided for tax returns, with the United States Postal Service, on your driver’s license, and on your voter registration card
• The home near your work, bank, recreational clubs, or other family members’ homes

What is not considered a principal residence?

Why does a primary residence matter?

Whether you’re a first-time homeowner or you own several properties, it’s important to understand how to classify a primary residence for a few reasons.

It affects your mortgage rates

Most of the time, primary residence mortgage rates are lower than for secondary homes or investment properties. That can add up to thousands of dollars of savings over the life of a loan.

When applying for a new mortgage or a mortgage refinance, it’s important to convey to the lender that it’s for a primary residence. You want to get the right mortgage for the house so you don’t wind up overpaying.

→ Learn more about what affects mortgage rates

It determines what tax benefits you can get

When you sell a primary residence, you may qualify for capital gains tax exemptions up to $500,000 (if you're married) of the profit on your taxes. Depending on your income, the capital gains tax rate is 0%, 15%, or 20%, so avoiding the taxes on, say, $400,000 of profit on your home sale is a pretty big deal. To qualify for this exclusion, you must meet the following criteria, like having used the home must have been your primary residence for at least 24 months out of the previous 5 years.

Individuals or single filers who took out a mortgage after December 15, 2017 may also deduct mortgage interest on a portion of the mortgage of their primary residence. To deduct mortgage interest, you must itemize your deductions using Schedule A of Form 1040. 

1031 Exchanges

There is one exception to the capital gains tax exclusion, allowing you to write off the capital gains taxes on an investment property rather than a primary residence.

If you own an investment property and would like to sell it to purchase another investment property, you can do a like-kind exchange known as a 1031 exchange. In this arrangement, you sell one investment property and, within a certain period of time, purchase a similar property, you can defer paying capital gains tax on the original sale.

However, if you ever move into the investment property purchased through the 1031 exchange and convert it to your primary residence, things get sticky. Even if you meet other requirements, if you sell a property acquired through a 1031 exchange within 5 years of purchasing it, you may not qualify for the capital gains exclusion.

Related: 11 tax deductions for homeowners

It’s your residence on all legal documents

When you have multiple residences, it’s especially important to clearly identify your primary residence because that’s the one that qualifies as your legal residence. You’ll want to have it on your driver’s license, tax forms, and voter registration forms — especially if you have homes in different states. Based on where your primary residence is, you may be subject to different tax liabilities, be able to vote on different issues, or be subject to different state laws.

When government institutions like the IRS are the ones making the rules about primary residences, it’s absolutely vital that you understand and follow them.