Investor · Tulsa, OK · Member since 2016 · 21 posts · 1 vote
We are considering converting our 20+ year residence to rental but want to know IF or HOW we can convert it back to our residence in the future and preserve the capital gains exclusion. Does the length of residence ownership have any effect on how the future sale would be treated?
You must live there for 2 of the last 5 years. So you can turn it into a rental for any length of time. If over 3 years, then you must live there again for another 2 years to avoid the gain.
When you convert your primary residence to a rental, your tax basis for depreciation will be the lower of your adjusted cost basis, or, the FMV on the conversion date. Most likely, your actual cost basis will be lower than FMV. You will also have to determine the depreciation basis for the dwelling structure alone -- land cannot be depreciated.
If, after some period of rental use, you move back into the property and reestablish it as your primary residence, you can re-qualify for the capital gains exclusion if you live in the property long enough to meet the two of the prior five year occupancy requirement before you sell.
After that, when you do sell, the portion of your capital gain attributed to your period of rental use will be taxable, while the rest of your capital gain can be excluded subject to the $250K/$500K limitations. Additionally, you will have to pay tax on the depreciation you were allowed during the period of rental use.