A 1031 tax-deferred exchange can be appealing to investors because of the opportunity to sell an investment property and reinvest the proceeds into a new property, allowing them to defer capital gains taxes. However, some clients have inquired if they can use an exchange on their personal residence. While a personal residence doesn’t fundamentally qualify for an exchange designed only for rental properties, there are some situations in which it may work, including:
- Converting Your Residence to a Rental Property: If you choose to convert your personal residence to a rental property, you will need to move out and secure a tenant for at least two years before you can qualify for the exchange.
- Converting a Portion of a Multi-Unit Property: If your personal residence is in a multi-unit property you own, such as a triplex, you may be able to use the exchange on the rental portion of your property, excluding your residence.
With various requirements and deadlines, completing a 1031 exchange can be complex, so it’s important to have a knowledgeable team in place to help you navigate the intricacies. We recommend partnering with a financial advisor, tax professional, 1031 intermediary, and realtor to get started.
We often guide clients through how real estate decisions can impact their overall financial picture, offering insights into the available opportunities and risks to consider. If you want to learn more about leveraging benefits on your property, please contact our team.
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Ann Timmoney (00:00 – 00:02:13)
Can a 1031 tax-deferred exchange be applied to your personal residence? That’s a good question. And I can help you with that here. As a refresher, a 1031 tax-deferred exchange is intended for investors to sell investment property and acquire another investment property and not have to pay capital gains tax. The tax is deferred. So the deferred capping tax is the attraction of 1031 exchanges. I’m going to share with you a couple of ways that your personal residence could work for a 1031 exchange. Fundamentally, a personal residence doesn’t qualify for an exchange because it’s not investment property; you’re living in it. But you can convert your primary residence to a rental property and put a tenant in there. You have to move out, and you need to rent it out for at least two years for the property to qualify for an exchange.
Another way is if you own a multi-unit property, say a triplex. Let’s say you’re living in one unit and that’s your primary residence; the other two units are rented out. You can exchange the value of the two rented units into a new investment property, and defer capital gains tax on that portion. But you cannot convert your primary portion in your unit into the exchange. But you could qualify for the capital gains exclusion, which is more good news I won’t get into here. Having said all of this, I think you can see that exchanges can be complicated. You actually need a good team in place to see you through one. You need a realtor well-versed in exchanges. And you need your tax professional to keep you on the right path. You also need a qualified intermediary, also known as a 1031 facilitating firm, to handle all the workings of the exchange and a financial advisor to help you with your overall picture. So keep your team in place and I hope this was useful.
Written by: Ann Timoney
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