1031 exchange/primary residence issue?

Question

I'm looking at a 1031 exchange for a property in the area where I plan to retire.

After the exchange completes, how long must I rent the new property out before I can move in and make it my primary residence without incurring a penalty or taxes related to the exchange?

Yes, I plan to rent for a year or so, then retire to that property.

The property is currently a rental; and the idea is to do a 1031 exchange to a property in a different state which is where I plan to retire eventually. The new property would be rented for at least a year, so it sounds like it does qualify.

I would actually be adding some money to the new property, as well as the proceeds of the sale of the old property, so that the new property would be worth at least the market price of the old property, which I believe meets the 1031 requirement on value.

Answer 1

As I read your question, you have a business property separate from your current primary residence. You will do a 1031 exchange on that business property into a rental property. Eventually you will convert the rental property into your primary residence.

The IRS requires that at the time you do the 1031 exchange, your intent is to use the property for business. So, there has to be a period of time (not well defined) during which you must rent that property. The IRS has to be satisfied that your intent is to generate taxable income from the property. So, it would have to be at least a year.

When you convert the rental property to your primary residence, the issue becomes when you are entitled to take the exclusion on the sale of the home. In the case of a primary residence that was purchased via a 1031 exchange, you have to own the property for five years (and live in it for two years), before it becomes eligible for the exclusion on the sale of a primary residence. This is a more stringent requirement than a residence purchased outright.

If you convert the property to your residence and then sell if before it is eligible for the exclusion, then you fall into a tax quagmire and may owe the deferred capital gains tax plus ordinary income tax on the depreciation taken.

Answer 2

Are you saying that you have a rental that you will 1031 exchange and then use it at as a rental for a while BEFORE moving into it as a primary residence? Because this is allowed. There was a wonderful article on the combining of your Section 121 250/500k exclusion with a 1031 exchange in the Journal of Accountancy in January of 07. The article is titled "Home Free". Here is a link to the JoA: http://www.aicpa.org/pubs/jofa/jan2007/weathers.htm

Hope it helps!

Answer 3

Sorry, but you can't do that. A 1031 exchange is only for deferral of gain on the exchange of BUSINESS property.

Assuming that you're looking at trading rental properties -- you can't do a 1031 exchange with your personal residence -- if you then convert the exchanged rental to a personal residence you will have to immediately pay the capital gains tax on the deferred gain.

Answer 4

Until you die. A 1031 exchange is only for like kind INVESTMENTS. As soon as you convert this purchase from investment to primary residence, you will pay capital gains taxes.

The 1031 exchange program was not designed to assist folks in 'sliding' from investment to private personal asset.

Answer 5

http://www.irs.gov/publications/p544/ch01.html#d0e2029 - this your best source for your question we would think. This is a complex area and there are many variables.

Wayne.