1031 towards a vacation home?

Question

My father is getting toward retirement and is looking at selling one of his businesses he is a partner in. Once the business is sold could he take his share and use that in a 1031 to purchase a vacation/second home? I would think he would have to use it as a vacation rental to be able to qualify for a 1031 correct? If so is there a minimum amount of time it has to be rented to qualify?

Gregory H. · Answer

There are some 1031 experts on here that should be able to help. However, 1031 is a like kind exchange, so unless the business interest he is selling is a stake in investment real estate, I don't believe you can 1031 it into investment real estate. Yes, he would have to use it as a vacation rental in the beginning. To qualify as an investment property I believe the minimum it can be rented for is 2 weeks per year. As for the IRS, 1031 is all about intention, so it can be a little hazy if all you did was rent it out for 2 weeks the year of purchase then never again. I'd say if you do it 2 consecutive years you'd cover your basis.

Dave Foster · Answer

@Nik Moushon, If he owns that gravel pit then absolutely that is real estate.  It will have a legal description and he can get a warranty deed with title insurance on it.  He uses it in his trade (rock extraction).  Yes that's real estate.

Now if he only owns the equipment and leases the land he still may be able to 1031 depending on how he owns the rights to the minerals.

The fields he owns definitely investment real estate.

Interesting options here.

Dave Foster · Answer

@Nik Moushon, Everyone's right on the exclusion of personal property in a 1031 exchange.  But I don't know what your fathers business is.  If it is a business that includes land/buildings as part of it (restaurant, factory, etc) then in a sale he can break out the real estate portion and exchange that for other investment real estate while paying tax on the allocation to Furnishings fixtures, equipment, and good will.

All investment real estate is like kind to each other so a vacation rental is fine as well.  But things are little flexible when it comes to vacation rentals.  There is no statutory rental period or income amount.   And there is no statutory restriction on personal use days.  You just have to be able to satisfy the IRS if ever asked that your intent was investment.

There are some guidelines.  But they're not lines in the sand.  @Kyle Kadish gives you a good read on the statute requirements allowing you to depreciate property and write off expenses against income.  But that does not speak specifically to establishing 1031 intent.

Likewise, there is no statutory period that you must hold the property as investment.  There is a safe harbor (sort of) at 2 years with specific use requirements from the IRS but again the safe harbor is not meant to be prescriptive but only descriptive of one period that would be acceptable.

Best advice - say your explanation to the mirror.  If you can do it without smiling chances are someone else will believe you also.

Nik Moushon · Answer

@Gregory Hiban

@Kyle Kadish

@Dave Foster

Thank you everyone for the info. Makes since that its needs to be similar business to be able to do a 1031. This particular business is a gravel pit. So it does have a dozens of acres(dont know exactly how many) that is going to be mined. So maybe you could count that as real estate investing? He also has a couple fields he inherited from his father that he is renting/leasing out to a local farmer to farm. Since he is renting them and not the one farming them that would count as REI right? I would think it would but I'm no expert lol.Also thanks Dave for explaining the details on the minimums on vacation rentals, or really the lack there of. But going with something like Kyle suggested, the 10% (or something similar), and keeping that 2 year "safe harbor" in mind sounds like a good way to avoid any issues with the IRS.

1031 towards a vacation home?

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