Tax implication of sale

[Akshar Patel]

Hi everyone,

Newb RE investor here. Had a quick question about the tax implication of a recent sale.

So I had purchased a single family home in Aug 2015 for 370K. We lived in it until end of March 2017 (20 months in total). We spent April and May debating whether to sell or not. In the end we ended up renting it in June 2017 and the tenants stayed there until end of August 2018. Anyway after that we decided it was time to sell but the house needed some repairs so we spent the next few months repairing it and getting it ready for sale. We just accepted a contract today for a sale price of $600K with closing during third week of March 2019. Since purchase, I've spent about $50K on the house in repairs including the big recent remodel.

My question is around the capital exclusion. Once the house is sold, we will have owned it for a total of 44 months so meet the 2/5 rule for ownership. We don't meet the 2/5 rule for residence as we lived there for 20 months (Aug 2015-Mar 2017).

Can we do a partial exclusion on the gain i.e. basically take 20/24 * 500K and that's our max gain OR are do we miss out on any exclusion because we lived there less than 2 years?

In this scenario, what would other investors do? Should we look into the 1031 option and reinvest the proceeds to another rental property or are there any other options to avoid a big tax bill in case we cannot take a partial exclusion?

[Dave Foster]

@Akshar Patel, There is nothing that is required in the listing paperwork in order for you to do a 1031 exchange.  The qualified intermediary must be in place prior to the closing of the sale.  That's all.  All parties must be notified of the 1031.  And the listing is certainly one way to do that.  But we, for instance, always provide notices of the 1031 to all parties through the closing documents.  And that suffices as well.  So don't throw that option away yet.

Your 121 exclusion is all or nothing.  Unless..... you meet one of a couple of very narrow exemptions.  If you had to sell the house for a job related transfer, or severe medical reasons then you could prorate.  Your proration is that you would get 20/24th of the actual gain tax free.  Not 20/24ths of the max.  Your accountant will help you make the call of whether or not you qualify for a partial exemption.