How can I avoid paying capital gains tax on my live-in flip?

Question

Hey Everyone!

I bought an old beat up house just outside of Louisville, KY in August 2019 for $120,000 with the intentions of fixing it up while living there as I am just out of college and was looking for a place to live. Once it's done the house should sell for around $240,000. I want to make sure I am making the right decisions now in order to protect myself from having a decent tax bill.

My plan with the house originally was to renovate it over the course of two years and than sell it to avoid paying any capital gains tax. About 6 months ago I realized I would probably have the house done much sooner than I had planned so I met with some realtors to talk about my options with selling it before meeting the two year threshold of ownership. One of the realtors I met with suggested that I could do a 1031 exchange to avoid paying any capital gains tax on it despite only living in the home for just over a year. Upon further research, I believe I have discovered thats incorrect and I wouldn't meet the requirements for a 1031 since its technically my "primary residence" and not an "investment property".

My question is this:

What is the best way for me (if possible) to wrap up this house in the next few months, sell it, and avoid paying capital gains tax? As stated earlier, I purchased it in August if 2019 and will have it ready to sell by the end of March. Would waiting until the end of this August (2021) to sell the house be my best option?

Any input or advice would be greatly appreciated!

Jesse

Dave Foster · Answer

@Jesse Stemle, You're right. That property doesn't qualify for 1031 because it is your primary. But because you've owned it for more than a year you will pay only capital gains tax on the sale. Or hold for the extra 5 months.

You could also get a job out of area. There is an exception to the two year period when you have to move for job related reasons. That would let you get most or all of that gain out tax free :)

@Jay Mersfelder, if that property is an investment property and not your primary residence it might be eligible for a 1031 exchange. The 1031 will allow you to sell that property and purchase new investment property without paying tax on the gain.

One positive for you - you've held the property for over a year.

Once negative for you - Your intent has to have been to hold that property. If you bought it just as a fix n flip and your intent was primarily to resell then it is ineligible for a 1031 exchange.

Bill Exeter · Answer

Hi @Jason Wray and @Jesse Stemle,

The key to a successful 1031 Exchange is that the property you sell and the property that you buy must be held for rental, investment or business use. Property acquired with the intent to rehab/fix and then sell (flip) is considered property acquire and held for sale and not held for investment, so it would not qualify for 1031 Exchange treatment. It all boils down to what you can demonstrate/support should you be audited. If your intent was to buy, rehab and hold for rental, then you would qualify for 1031 Exchange treatment. You would have to demonstrate your intent should you be audited. The key is intent.

Jesse,

You are less than 8 months away from tax free income. Tax free income is hard to come by. I would give serious thought to holding and living there as your primary residence until you cross the two year mark when you will qualify for $250,000 in tax free gain as your primary residence.

Jay Mersfelder · Answer

Lot of knowledge being shared appreciate all the wisdom on this topic..think might be best to hold property for while still..

Jay Mersfelder · Answer

I'm in same situation I bought a house early last year for 40 thousand and put in lot of hours and money now is worth around 130 thousand.. I'm wanting to get into renting properties and was thinking about selling the house but know capital gains can kill profits..hear 1031 exchange can help me to reinvest in better suited renter property. So going to look into that..

Jay Mersfelder · Answer

I'm in same situation I bought a house early last year for 40 thousand and put in lot of hours and money now is worth around 130 thousand.. I'm wanting to get into renting properties and was thinking about selling the house but know capital gains can kill profits..hear 1031 exchange can help me to reinvest in better suited renter property. So going to look into that..

Jason Wray · Answer

Family to family sale. Take out cash through a cash out refinance and then do a seller held second through private sale or lease to own.

How can I avoid paying capital gains tax on my live-in flip?

How can I avoid paying capital gains tax on my live-in flip?

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