does this work as a 1031?

Question

Hey BP,Currently we're hoping to be closing on a SF home for us. our plan is to buy this Sept 2018 and put some sweat equity in it. (it looks like walking into the 80s!) Then september 2019 we'll be moving to another state. At that time we'll rent it out for a year. after that year is passed now September 2020, we would list it. Can i then 1031 that property to a MFR in the current state? My understanding is the 1031 has to be an investment property, and be an investment for 1-2 years minimum. Of course we'd follow the necessary 1031 rules, 45 days to find new properties then 180 days to purchase one of said properties.Thanks!

Carl Fischer · Answer

@Adam WidderI’m not sure what tax bracket your in but even in the highest bracket it would be approx $2k on long term capital gains. 1031 will cost a minimum of $1k. Very little chance I would do the 1031 for $1k in savings. Verify with a 1031 intermediary and your cpa. Hope this helps.

Adam Widder · Answer

@Dave Foster So the grey area being, no set time for holding the property, correct?I will look at sec 121, we're in the process of meeting with a CPA. I was going to ask the CPA about publication 523, since we're moving for job purposes after a year, we could just sell the property after living in it and qualify for the partial exclusion. Also we're military so the AD military exclusion may apply as well on the publication 523 but I'm not quite sure. So hopefully the CPA can clear that up and I will ask about the sec 121.For your last point, basically I would need to find a 1031 specialist like yourself to assist in the intent and sale of the property?EMAW is right!

Dave Foster · Answer

@Adam Widder, It is true that property that qualifies for 1031 is property that you have the intent of holding for productive investment use. It's grey as @Jessica Zolotorofe says because there's no statutory holding period. Only what you describe as intent. Converting a property to rental is no problem at all. Although If you were to buy this and move in for a year and then you had to move to another state you should be eligible for a prorated sale under sec 121 of your primary residence. That would let you take 50% (since you only lived in it for one year) of the gain tax free up to $500K. So that's another consideration.Back to 1031 - Most folks feel comfortable with a hold of more than one year. But there can always be circumstances where a holding period of less (or more) would be needed for you to demonstrate your intent. It is entirely conceivable that you could be moving and wanting to convert this property into a rental to see how it goes. If after a year you decided that being a long distance landlord didn't make sense I would see no problem at all with a 1031 sale at that point.EMAW!!

Ashish Acharya · Answer

@Adam Widder , Based on what you have said, you qualify for partial exclusion that will actually wipe out your entire gain. Your CPA can fill you in more on that. Good luck.

Adam Widder · Answer

@Carl Fischer my wife and I were literally just asking this in text to each other. Here's numbers:Purchase: 136k, 5% down = $6800 + closing costs and prepaid insurance will be roughly 10k downARV: 175-180k, have to see how the neighborhood does in the next year, my realtor firmly believes 180.Rehab: 15-20kAfter selling and paying fees we're looking at 10k profit? Feel free to confirm and assist in those numbers!

Carl Fischer · Answer

@Adam WidderHow much profit are you expecting to make? Is it even worth the hassle and constraints?

Adam Widder · Answer

@Jessica ZolotorofeThanks for the input! so second scenario would then be just to live in, then we move after a year, rent it out for a year, then just straight sell it. After 2 years then would the tax implications change?

Jessica Zolotorofe · Answer

Very grey area and probably not likely it would work. You have to have the intent to hold the property long term as an investment with no intent to sell it quickly after you purchase it. Flips are prohibited for 1031s. The year of rental is probably insufficient to show you wanted to hold it long term. If you can show the IRS that you bought it and some circumstance required you to sell it without it having been the plan all along, a year or 2 may suffice, but under the scenario you put forth, it's probably not a good idea. @Dave Foster can weigh in. He may have a different opinion!

Adam Widder · Answer

@Ashish Acharya thanks for the clarification!

Ashish Acharya · Answer

Partial exclusion is calculated in such a way that out of 250k exclusion. You might qualify for 50k.Your gain is 10k.