Can I use the 1031 exchange to buy my primary residence?

Question

I would like to sell a couple properties in the future, would I be able to use the 1031 strategy to buy one house that I would use as a primary residence? Would I be able to sell 10 houses in a package and use that to buy one house?

Jeff Nash · Answer

You can’t do an exchange and immediately move into the replacement property and use it primarily for personal use. The proceeds from the relinquished properties need to be used for investment purposes for a period of time; however, you can temporarily use it for investment purposes for 2 full years, after which you can convert it to personal use. Perhaps you could also purchase a duplex, for example, and use personal funds for the portion that you can live in and 1031 funds for the investment portion. I don’t know  the specific details of your situation, but there are other considerations and options as well.

Ashish Acharya · Answer

@Kyle Carter You cannot directly use a 1031 exchange to purchase a primary residence, as the IRS mandates that the replacement property must be used for investment or business purposes. While it is possible to convert an investment property acquired through a 1031 exchange into a primary residence, this requires careful planning. You would need to rent out the property for at least two years to demonstrate it was held for investment purposes and comply with IRS guidelines. Even then, the IRS may scrutinize the transaction if it appears the intent was to immediately convert the property into a personal residence.

Additionally, if you eventually sell the property after converting it to a primary residence, you may qualify for partial benefits under the Section 121 exclusion for primary residence gains. However, any depreciation claimed during the investment period must be recaptured and taxed. Selling multiple properties in a 1031 exchange to consolidate funds for one investment property is allowed, but the property must initially be used solely for investment.

This post does not create a CPA-Client relationship. The information contained in this post is not to be relied upon. Readers should seek professional advice.

Jeff Nash · Answer

I 100% agree with the intent aspect and that is an important premise, but the fact is in this particular situation intent for it to be personal use has been confirmed (by way of a public post). If you opened the exchange with the intent to hold the property for investment, and then in the future circumstance changed which caused you to reconsider the use of the replacement property and convert it to personal use, then a period of time less than two years might be reasonable.  The original post leaves the door open for a challenge by the IRS, so the safe harbor of holding it for investment for two full years is the safer option.

Dave Foster · Answer

@Kyle Carter, The strategy you're looking at would be what is called a "consolidation exchange". followed by a conversion to your primary residence.  And it can work really well for you as long as you pay attention to the statute requirements.

In order to defer all tax you are selling investment real estate and buying investment real estate of at least the same value you sold.  If you want to combine two or more lesser sales into one higher purchase that is fine as long as your purchase meets the timing requirements for each sale.

Once you have completed the consolidation portion of your 1031 exchange you now own a more expensive (and probably really nice) property that it must be your intent to hold for investment use.  However, your intent can change and you convert it into your primary residence.  As long as you own it you will not trigger any tax.  @Jeff Nash, noted the two year period.  That is a safe harbor from the IRS with a couple of caveats.  It would be considered to be the safest end of the spectrum.   However, it is not a prescriptive requirement.  What is required is that you be able to demonstrate your intent to hold for investment.  And that something caused your intent to change.  The specifics of your situation will determine where you might need to fall on that spectrum of holding period.

Ben Trageser · Answer

@Jeff Nash Whitney could help with this

Can I use the 1031 exchange to buy my primary residence?

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