Little to no equity with a potential capital gain and depreciation recapture.I have a similar situation with a condo I bought in 2006.You can still do a low equity to zero equity 1031 to push forward the depreciation recapture and capital gain.

Flipping will subject you to capital gains and self employment tax.

But you only put $20k in, thats a 50% gain on your equity.

If we decide to sell after a few years in the event that the landlord situation does not go well, I am apprehensive about the capital gains tax (since I am unlikely to want to do a 1031 conversion to another investment property). 

@Logan LarochelleUltimately, everything you report on the return can be questioned by the IRS...will they...Your role is to report an accurate return based on the tax laws provided to us.If the IRS questions anything you should say you are excluding the gain via section 121.Show them the closing documents on the day you purchased the home and the closing documents when you sold the home.Then to show that you lived in the home for 2 years - show them the receipts of utilities that are in your name.Likely they won't audit you - but in the chance that they do - you should at least have the documentation.

And the good news is that the good honest tenants will be quite truthful, and as you verify the facts such an applicant provides you begin to gain confidence in them being decent.

So... (1) Since I lived in the property for two of the last five years am I exempt from all of the capital gains, or a quarter of the gains?

You need to work with only Motivated Sellers by asking proper questions and determine whether this is a Motivated Seller by phone and before going to meet owner to determine if Motivated is a waste of valuable time.

I started in real estate without very much in the way of money but I had a lot of time and was gaining knowledge quickly.

I'm sure there are many "what if" scenarios we are unaware of, and hoping to gain as much insight as possible.