Sold in 4 days! But now what???

Question

Clayton Mobley · Answer

@Justin Garrett There is actually an exception to the two year rule if you are moved because of a job or military service, so you may still be ok. Did you live in it for the 500+ days, then get deployed, then come back and live in the property again? Even if those 500+ days were several years ago, you can ignore the period of your deployments. So, for example, let's say you bought it in 2010, lived there for 573 days. Then you were deployed (or otherwise stationed more than 50+ miles away from the property) until 2016. When you came back, you lived in the property for an additional 157 days (for a total of 730). Even though you haven't lived there for 24 months within the past five years, you still qualify for 121 exclusion because of your service. Basically the five year look-back period just gets extended by the length of your deployment.

If you didn't move back in after your military move, however, you still don't meet the test, sorry.

Since you mention 1031, I assume you rented the property out during your time away? How long was it rented? If you can show that you intended to keep it as a rental long term, then you could execute a 1031, but most people like to have held a prop as a rental for a year or more to be on the good side of the IRS.

If you haven't already gotten in touch with a Qualified Intermediary, you may be too late for a 1031 anyway - you can't take any proceeds from the sale of the property or the 1031 is void. Ideally you would have a QI in place before you went to market, as you now need to have replacement props officially identified within 45 days and purchased a replacement prop (or props, but must be the identified props) within 180. If you haven't done a lot of the legwork on this already, you may be too far into the process to pull off a 1031.

@Dave Van Horn is correct that you can include rehab and selling costs in your basis, but you also need to add back in any depreciation you claimed (or didn't claim, actually, the IRS doesn't care if you actually took the deduction https://www.biggerpockets.com/renewsblog/2014/07/3...) when the property was used as a rental. The IRS taxes Sec1250 depreciation recapture at 25%.

I'd need more info on the situation to give further insight, but for now the primary issues you have are:

1. Did you live in for 24 months TOTAL, even if you were away for a while in the middle because of the military? Because then you might qualify for Sec 121 exemption

2. If not, how long was it a rental? Can you show your intent to keep it as a long term investment?

3. Have you already gotten a QI on your team? You can't close without a QI in place or your can't 1031 regardless of intent.

4. If you haven't lived in the property for a total of 24 months (with or without military service exemption, that just extends the five year look back period) then you can't use the Sec 121 exemption, regardless of whether you can still pull of a 1031.

If you have lived in the property for a total of 24 months, things look brighter. If not, you need to scramble to get a QI in place before you close.

Feel free to post any other details of the situation and I might be able to fine tune this response ;)

Good luck!

Clayton

Bill Exeter · Answer

Hi @Justin Garrett,

Congratulations on your quick sale!

The good news is that there are exceptions to the two out of the last five years holding requirements for military service. You should be able to get a prorated tax-free exclusion for the 573 days that you lived in the property as your primary residence as long as those 573 days were during the last 60 months (five years).

You would only qualified for a 1031 Exchange transaction if you had moved out of the property and held it as rental, investment or business use property for a period of time to show/demonstrate that you did in fact have the intent to hold the property for investment purposes. If you just moved out of the property, listed it and insulted, you would not qualify for 1031 Exchange treatment.

Dave Van Horn · Answer

Hi Justin,

I'm not an accountant but I believe the commission and any improvements can reduce the gain but not sure if you can get around the 2 year stipulation. I would suggest contacting an accountant to see if there's a work around.

Also, may want to consider if you have any losses anywhere else that could offset the gain.

Best,

Dave

Justin Tahilramani · Answer

@Justin Garrett - First off - congrats on the sale. Do you think that you might have under priced?

Clayton Mobley · Answer

@Justin Garrett Thanks for the additional info! Ok, so since you are still stationed more than 50 miles away from the property, I would think that yes, you can suspend the five year test for up to ten additional years (which more than covers the 5.5 years you've been away) and then claim a partial exclusion for the 573 days.

HOWEVER, I would love for @Bill Exeter to weigh in as I am NOT a tax professional - just a turnkey provider who weirdly sort of enjoys tax law ;) Since your situation is a bit more complicated (in that you need to use both the suspension and the partial exclusion) I'd definitely make sure you check with a pro. That being said, I'd think that you should be good to go.

I would also note that the partial exclusion can be calculated two ways - using months or days. I think generally the days method is more advantageous, but I'd check the math both ways to be sure. Here's a piece about calculation partial exclusions and when the month vs day calc might be beneficial  http://www.thetaxadviser.com/issues/2008/aug/plann...

Based on your earlier numbers, and assuming no renovations are added into your basis, the math would be:

Basis = $235k + $17.5k = $252.5k

Sale = $390k

Gain = $137,500

Prorated Sec 121 (Days)  = (573/730 * $250k) = $196,233.

The only missing factor is your depreciation, which you have to deduct from your basis regardless of whether you took the deduction or not. Depreciation is only taken on the value of the building, not the land. So you'd need to see what the tax assessor has the value of the building as. Depreciation of real estate is taken over 27.5 years, so you'd need to figure how much depreciation recapture you need to deduct from your basis by calculating how much depreciation you could have taken over the 5.5 years you held the prop as a rental. Luckily, you have plenty of wiggle room between your actual gain and your max prorated excludable gain.

Here's a Zillow article on figuring out depreciation https://www.zillow.com/blog/rental-property-deprec...

So, again, please check with a professional, but it looks like you should be ok.

Good luck!

Clayton

Justin Garrett · Answer

@Clayton Mobley Thank you so much for you reaching out that was a lot of help for sure! so to answer your questions.

1. I did not live in the  house for 24 months. I purchased the house as my primary residence in 2010 lived in it for 573 days as my residence then was given orders to Hawaii followed by my orders to Virginia where I am currently stationed.

2. It has been a rental for 14 Nov 2011 and well be closed in April of 2017 so I have rented it for around 5 1/2 years.  I also wasn't very smart about this due to it being my first property and I didn't take deprecation on the property while I was renting it.

3. I do have a Qualified Intermediary in my small home town were I wanted to purchase an apartment building, but that deal is falling apart and doesn't looking like it will be able to be completed. All the other properties they are showing me aren't meeting my numbers or just are trash that will take to much time and work to get back on the market. So I am worried I will place this money in a 1031 and not be able to find properties that will meet my investment criteria.

4. I did not live in the property for 24 months but was wondering though if I used the Service, intelligence, and Peace Corps Personnel(Publication 523) to suspend the 5 year test period and disregard the 5 plus years it was rented out. Than qualify for a partial exclusion  due to having to move out side of 50 miles for work. I did those calculations and if I qualify than my exclusion limits would be around $380,000.

@Bill Exeter  Thanks for reaching out! That is what I am hoping the only problem is I haven't lived in the house in the last 5 plus years because of military requirements keeping me away from San Diego. I was wondering if I could use the Service, intelligence, and Peace Corps Personnel(Publication 523) to suspend my time away from San Diego and apply for the partial exclusion for the 573 days that I used the house as the primary resident.

Thanks for reaching out I am in a pickle with this apartment deal falling through and I don't want to perchance bad property and also do want to take a HUGE tax hit either.

Sold in 4 days! But now what???

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