Avoiding Capital Gain Tax

[Steve Milka]

First post and hope this is the right spot.  I have been on here for a while reading, listening and looking around and have a question that maybe someone can help with?  We have had a rental property in Denver that we lived in for 3 years and have rented it after that.  It has been rented out since 2014.  With that being said we moved out of that property and bought property 2 and stayed in the property 2 for just over two years and sold it to get our cash out of it.  Since we were in it for two years we didn't have to pay the cap gains tax.  This was on the tax filing in 2017.  We were thinking of selling the first house that has been rented out this year and thought we would be good on the cap gains tax again but now I am reading that you can only get this tax break every two years.  Do we now have to wait until next year to sell to avoid the taxes?  Any input would be greatly appreciated. 

[Dave Foster]

@Steve Milka, The dates might work in your favor if you were really fixed on being able to exempt some of that gain.  But it's a totally different game with this one.  In order to meet the qualification that you have lived in the property for two out of the five years prior to sale you'll have to move back in.  That residency requirement would run concurrent with the two year period before you can once again take advantage of the sec 121 exchange.  But that could work.

The problem is that you would then be converting a rental into a primary residence.  In that event you will not get the full exemption.  You will get to take the gain prorated from the time of "qualified use" (as primary residence) tax free.  And you'll still have to pay tax on the proration from the periods of "non-qualified use" (as a rental).  So if you went this route you'll probably get 3/5ths of the gain tax free and you'll have to recapture depreciation.

Unfortunately that's not nearly as sweet as you had been hoping.  But as @Christopher Phillips pointed out, you can sell that at any time and using the process of the 1031 exchange purchase replacement investment real estate.  If your plan involves continuing in real estate investing and you wanted to sell so you could buy a better producing piece of investment real estate then the 1031 would accomplish the same thing.  It's all going to come down to numbers and your goals.