Owner Occupied Rental - 1031 exchange?

Question

Hello,

I currently own one house in Arizona which is my primary residence but also an owner-occupied rental (I rent out 2 rooms).

I began construction on my second house in AZ which will be my primary residence. My original plan was to rent the current house out, but I found a better opportunity back in Michigan where I am from.

Am I eligible for a 1031 exchange if the property is an owner-occupied rental? I can't find any clear information on this. I will be purchasing 5-7 single-family homes in Michigan with the sale of this house.

I've been in the house ~18 months and won't make it to 2 years since my new home will be done in March which I have to occupy within 60 days of closing...

When I talked to a CPA about this, he wasn't sure. But he recommended I rent the house out briefly and then do a 1031 exchange. Which brings me to the question of what is the minimum time a house must be a rental to qualify for 1031? What if I rent the house for 1-2 months and then sell it?

Doug McVinua · Answer

@Daniel D. Reading this string and especially the in-house 1031 expert @Dave Foster. This reads as if the best situation might be to meet the 24-month occupancy which should then give you the capital gains exemption on much of the funds. You don't always have to officially move into a new home immediately after close. Sometimes delays happen, you might need to landscape and other improvements which might just buy you the needed time.  Of course, you need a good tax person to guide you since you have been renting the rooms out as well.

Arizona Home values have done extremely well and increased significantly over the last couple of years so you should be in a good equity position on the current home. Happy to provide a value on the current residence.

I would think in the long run it might benefit you to take the funds from this house out without capital gains and then you get a fresh clean basis for your Michigan properties.

Alex Olson · Answer

@Daniel D. I would have @Dave Foster chime in here but I think you may be ok if you sell it and 1031 exchange into another house. You cannot however exchange in to your new owner occupied house through a 1031 exchange (correct me if I am wrong Dave?) Hope this helps.

Natalie Kolodij · Answer

Are you moving more than 50 miles away for work or another unforseen event? If so you can stil qualify for the majority of the 121 primary residence tax free sale.

Renting rooms within your house doesn't interfere with the 121 exclusion, but also doesn't qualify for a 1031. It's kind of a unicorn.

Chad McMahan · Answer

Hi Daniel!

Regardless of what advice you get on BP, ask your accountant. Or call a 1031 attorney. Don't leave it to chance, because you want free advice.

Dave Foster · Answer

@Daniel D., Your in tweener ville.  The property won't qualify for the primary residence exemption because you haven't lived there long enough.  And since you're renting out part of the regular living space you probably haven't dedicated that portion as investment on your tax return.  So it also likely won't qualify for a 1031.

If you have been depreciating out part of the property on your tax return that amount would be able to be 1031d.  But also if you haven't been depreciating those rooms then then entire house would still potentially be eligible for the primary residence exclusion.

So here's where I would come down.  I think it's going to be tough to claim the entire thing as rental long enough to establish intent.  So I wouldn't look to the 1031 route to help you.

But if you've been in it for 18 months and your new property isn't scheduled to be done until March.  And you have 60 days to occupy.... I think you'll be able to make that 24 month live in period easily.

Especially since (and builders please forgive the generalization) every builder in America seems to think there's 45 days in every month!!!  It wouldn't surprise me at all if March in builder speak really means June.  And that would certainly leave you in your current property long enough to get the tax free benefit of the primary residence exclusion.

Daniel D. · Answer

@Alex Olson yes definitely not trying to 1031 into my new home. Looking to buy 5-7 single families in a different state

Owner Occupied Rental - 1031 exchange?

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