Can I use a 1031 exchange to buy siblings part of inherited home

[Karen Bruck]

Hello everyone.

First time question but have been helped many times with the great advice found on this website.

My Mother's house is located in San Diego, CA. When she passes, the house will be left to 4 adult children, but with the passing of Prop 19 on April 1, 2021, 1 of the 4 children will have to claim it as their primary residence to keep my mother's tax basis. We have always figured that we would keep the house and eventually turn it into a rental, splitting it 4 ways, but now with Prop 19, my brother would be the one claiming it as his residence. (Still not exactly sure where that leaves the other sibling's inheritance, and honestly, I'm not too sure that there is a clear answer for that.) My question is, if I wanted to invest in the house when it becomes a rental, assuming that my brother would need to live in it for 2 years, could I then use a 1031 exchange to do so? I would be buying out 2 of my sibling's portions, leaving me with 3/4 ownership. I would be using the full amount of the exchange plus adding cash to cover the amount owed. 

Thank you in advance for your vast helpful and vast knowledge.

[Dave Foster]

@Karen Bruck, There is an inherent risk when buying from related parties to complete your 1031 exchange.  It is not prohibited by statute.  But the prohibition is that you cannot buy from related parties when the intent is to lessen your tax burden.  And since that's what the 1031 is designed to do this makes it a little problematic.  There are accountants out there insist that as long as it is a business like arms length transaction that it can be done.  I would see how your accountant feels.  But as far as the mechanics go - a 1031 might be available.

[Dave Foster]

@Karen Bruck, There is an inherent risk when buying from related parties to complete your 1031 exchange.  It is not prohibited by statute.  But the prohibition is that you cannot buy from related parties when the intent is to lessen your tax burden.  And since that's what the 1031 is designed to do this makes it a little problematic.  There are accountants out there insist that as long as it is a business like arms length transaction that it can be done.  I would see how your accountant feels.  But as far as the mechanics go - a 1031 might be available.

[Karen Bruck]

Thank you! 

[Bill Exeter]

Generally, selling to a related party (which is not what you are doing) will work.  There is just a two year holding period.  However, buying from a related party in most cases will not work. Revenue Ruling 2002-83 is the specific ruling that covers related party transactions.  Essentially, Revenue Ruling 2002-83 is trying to prevent the avoidance of tax by related party transactions.  As Dave points out, it is not prohibited by statute, but your tax advisor should review Revenue Ruling 2002-83 to ensure that you do not run afoul.  My educated guess, based on the limited information provided, is that it would not work in your case, but there a few exceptions. 

[Karen Bruck]

I appreciate your input. Thank you. 

[Gina Tse-Louie]

Sibling transfers are complicated.  Depends on what the trust says, what assets are available to trust, etc.  Sadly the tax assessors are now Big Brother and if brother moves out the property tax could be reassessed to date of death.  Many rentals are no longer rentals due to unaffordable property tax reassessment.  Tenants are being hurt.  Help us to #FiXProp19 by #RepealTheDeathTax. Download, print, wet ink sign and submit. Signer can be Circulator (witness for self and others). Complete BOTH sections. We need 1.3 million signatures to get on November 2024 ballot. Volunteer and Download petition at ForCalifornians.com or RepealTheDeathTax.com.

[Karen Bruck]

I am 100% behind what you are saying. Prop 19 needs to get back on the ballot to be voted out. It should never have happened. Have passed around petitions and continue to pass the info on. Thank you.