Possible to add co-borrower to 1031?

Question

Hi,

My parents own a rental property that is paid off and they are thinking of selling it. However, I'm not sure if 1031 is possible or better.

Option 1: they lived there as primary residence for 9 years, then rented it out for 9 years. They are thinking to move back in to get some exclusion, so 9 rental/20 total ownership years is 45% non qualifying use. Purchase price $250k, sell price $700k, depreciated $80k. So if they sold they would have a profit of $450k * 45% so $202.5k + 80k they would need to pay taxes on - so about $60k in federal and state taxes.

Option 2: 1031 the $700k, but I would need to be on the new home deed to qualify for the loan. Ultimately, within a few years, they do not wish to have their names on the new home title or loan as well. Is this a possibility to 1031 into 3 borrowers - mom, dad, son? Can I add my name into the property now, and then 1031 into a new rental property?

Any other good options other than simply selling?

Thanks much!

Dave Foster · Answer

Hi ya @Mark Creason.  Yep, @David Lee is absolutely right.  The rules changed in 2008 and now David's parents would have to move back in and then they will only get a proration of the gain tax free.

So the smart play that defers all tax is the 1031.  I wouldn't recommend that you take title to any of it now David as doing so right before a sale and 1031 get's the spidey senses of the irs tingling.  So your parents need to sell, do the 1031 and then purchase the replacement property in their name.  It is the consistency of ownership of the property throughout that is important. with the 1031  So if the lender will allow you to be on the loan but not on the deed that is fine.  I've done that before myself.

Once the 1031 is complete then you can shift the ownership structure of the property to eliminate your parents.  There's number of ways to do that.  Others can counsel you better.  My preference would probably be to create an LLC and contribute the property into that (with your lender's okey dokey).  All three of you could be members of the LLC.  And then your parents give to you their interests in the LLC within IRS gift guidelines.

You're also going to definitely want to get professional guidance for estate planning purposes.  Right now your parents will be able to will that property to you when they pass at a step up in basis so the tax will go away.  If they transfer to you now it transfers over with the current basis so the tax will still be there after their passing.  Not the most important consideration.  But good estate planning can help your parents and you avoid that tax bill forever.

Mark Creason · Answer

@Dave Foster

I know I can count on you.  Does this make any sense to you?

Mark

Bob B. · Answer

@Dave Foster will be along shortly and sort this out for you.

David Lee · Answer

Thank you very much @Dave Foster and @Katie Lepore.

Katie L. · Answer

@David Lee

Couple things you might want to look further into: parent-child exclusion in CA for property taxes, Grantor Retained Annuity Trust, intentionally defective grantor trust, gifting outright from parents to children.  Not sure as to your parents' net worth or their age but the lifetime exclusion after the recent Tax Cuts and Jobs Act is pretty high now that some of these other avenues could be good options.

*This post does not create an attorney-client or CPA-client relationship.  Readers are advised to seek professional advice from a competent professional familiar with their situation. This post is not to be relied upon.

Dave Foster · Answer

@David Lee, if you placed your name on the property now but didn't sell for a couple of years that would not raise red flags for the transfer before a 1031.  Still the same issues though of transfer in such a way to be as tax efficient as possible.  The "others" I was referring to would be your accountant who can help you wade through the gifting issues.  And an estate planning attorney who can maybe find some more tax efficient ways to transfer ownership.

David Lee · Answer

Hi @Dave Foster

Thanks for the advice. That's good to know it's possible that I could be on the loan but not the deed.

What if I added my name now to the property, then waited 2 years to 1031? Though this might alert the county to a reappraisal. And maybe other problems?

When you said "others can counsel you better" - would you say I should look for a CPA, tax lawyer, or somebody else?

Thanks much!

David Lee · Answer

@Mark Creason

From what I read, there were new rules in 2008 that you can't just move back in for 2 years and get 500k tax free? That's what some people were doing and they closed that "loophole."

http://www.floresattorneys.com/popup-newsletter.php?PageID=294798

https://taxmap.irs.gov/taxmap/pub17/p17-084.htm

Thanks!

Mark Creason · Answer

@David Lee

The 9 out of 20 has nothing to do with your equation.  If they move back into it for 2 years, as a married couple, under section 121, they could eliminate 500k of gain, assuming it is a single family property.

As for qualifying for a loan, there are non-recourse loans that qualify based on the asset.  PM if you would like additional info.

Mark

David Lee · Answer

@Mark Creason

Hi Mark,

Thanks. Yes, they rented it out the last 9, but they want to move back in to live as primary for the next 2 years, so at least they could get some exclusion. So in 2 years, they would have owned it for a total of 20 years, which I understand 9/20, or 45% of the profit they will still need to pay taxes.

My parents are open to doing a 1031, but they have no income, so won't qualify for any loans. I will need to be a co borrower if a 1031 is even possible.

Also, ultimately, if they are able to 1031 with me on the new property, they don't want their names on the deed or loan in the near future (~ 5 years). They're getting old and don't want the responsibilities of being a landlord.

Thank you!

Possible to add co-borrower to 1031?

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