Primary Residence Turned Rental - 1031 Exchange?

Question

Hi All-

I have a condo that was my primary residence for a number of years, but I started renting it out last May (and I live elsewhere). Is it now eligible for a 1031 exchange? Does it need to rented for a certain period of time? Also, does it matter that it's in my name rather than an LLC?

Matt

Dave Foster · Answer

@Matt S. $250K buys a nice bride in a lot of places.  But the old proverb says "marry in haste - repent at leisure":)

Actually you're in a great spot right now.  If you hold the property till the prime selling season of Spring - Summer you would have used it as investment for over a year so it would be on two tax returns as a rental.  That may be enough to make you and your acct. comfortable.  Most folks feel comfortable at anything over a year.

If so then you can sell this summer and take the primary residence exemption tax free and do a 1031 on the rest and defer all other gain and depreciation recapture.  That's the best of both worlds.

All this and you didn't have to get married!

Brian Garrett · Answer

Same thing I would suggest. Unless it makes such a great rental that you don't want to unload it.

Thomas Castelli · Answer

@Matt S. Since you converted the property to a rental, you can do a 1031 exchange. However, you have to show intent to hold the property as a rental. There is no specified time period, but I've seen people say that holding it as a rental for 1-2 years should suffice.

The fact that it is in your personal name shouldn't matter.

Dave Foster · Answer

@Matt S., There is no need to do a 1031 exchange at this point.  You have a property that you own and have lived in for 2 out of the previous 5 years.  You qualify to take the first $250K ($500K if married) of profit tax free under the primary residence exclusion of sec 121.

If your gain is greater than the 121 limits  you could examine your intent as @Thomas Castelli said.  If you feel you  have established your intent as to investment then you could take the maximum exclusion for the sec 121 exclusion and 1031 the remaining.

If you sell you will have to recapture depreciation. if it is indeed a small number then no problem.  If it's a big number than you can always revisit the 1031 again.

You have a window of three years (not a day more) from the day you move out to complete your sale and still qualify for the 121 primary residence exclusion.  So you do have some time to strategize.

Dave Foster · Answer

@John Paziouros, Yep that's exactly right because  you qualify on both counts.  You are using the property for productive investment use so it qualifies for sec 1031.  And you have lived in it for 2 out of the previous 5 years.

the mechanism is that you sell the property and begin a 1031 exchange taking $250 or $500K in boot.  That would normally be taxable in a 1031 exchange but because you meet the requirements of sec 121 you do not pay tax on it and only the rest of the cash and sale allocation go into the 1031.

John Paziouros · Answer

@Dave Foster, based on your last comment, "If so then you can sell this summer and take the primary residence exemption tax free and do a 1031 on the rest and defer all other gain and depreciation recapture.  That's the best of both worlds."If I understood that correctly, are you saying that for a single property that has been utilized as a mix of both a primary residence & an investment property during the last 5 years, upon sale of the property, the seller can claim both the 121 exclusion (owner occupant) & exchange the remaining appreciated value through the 1031 exclusion (investor) ? I wasn't aware a seller could claim both tax exclusions (121 & 1031) from a single sale.

Matt S. · Answer

Thanks @Dave Foster @Brian Garrett @Thomas Castelli @wayne brooks

With current prices, the gain is likely between $500-550K and I'm single so I'd be left with a sizable taxable gain. Sound like I need to weigh the benefit of having roughly half of the gain tax free versus the whole gain tax deferred. Any thoughts on how I should weight these options? Or just personal preference/circumstances?

I guess my optimal strategy would be to get married in the next 2.5 years :)

Primary Residence Turned Rental - 1031 Exchange?

Most Popular Reply