Converting §1031 property to personal residence

Technical topics regarding tax preparation.
#1
gusser  
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MFJ did a §1031 in 2019. They divorced in 2021 and spouse got the two rentals (§1031 for other rental was done in 2018).

She wants to move into the house that was §1031'd in 2019. It's been just over two years. I heard about a safe harbor or at least guidance from theirs on this issue but searched to no avail. Can someone point me to something concrete that reviews the rules regarding the conversion from rental to residence? It was not their original intent to convert to a residence.
 

#2
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It's a fact test regarding intent at the time of the exchange. There are plenty of helpful post-exchange facts. And you're obviously not going to amend an old return to report a failed 1031. So I don't see why she would allow this issue to interfere with her plan to move into the residence.
Steve
 

#3
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I agree with Steve. Intent matters, a LOT. There may have been some talk about a safe harbor, don't recall if that ever got legalized. In any event, that's all it is anyway. If the intent was to continue renting....she's fine. And one day, when she moves out and rents it, she picks up where she left off.
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#4
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I heard about a safe harbor or at least guidance from theirs on this issue but searched to no avail.


Rev. Proc. 2008-16
 

#5
gusser  
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TAXMASTER wrote:
I heard about a safe harbor or at least guidance from theirs on this issue but searched to no avail.


Rev. Proc. 2008-16


Thanks Taxmaster, that's what I was looking for. 2008-16 has a two year safe harbor but a literal read of the rev proc tells me we can't use it. The replacement property was obtained in Oct 2019 but had to be rehabbed and wasn't placed into service until 1-1-20. The safe harbor requires rental for at least 14 days in each month of the next 24 months after obtaining the property so I don't think they can use the safe harbor. I guess it's facts and circumstances at this point. It HAS been rented for 24 months though and until divorce it was their intention to keep as a rental. She wants to move into it right now and is asking me for approval...
 

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FWIW, I'd be comfortable giving her the approval she is requesting.
Steve
 

#7
gusser  
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gatortaxguy wrote:It's a fact test regarding intent at the time of the exchange. There are plenty of helpful post-exchange facts. And you're obviously not going to amend an old return to report a failed 1031. So I don't see why she would allow this issue to interfere with her plan to move into the residence.


Steve, thanks for informing me of the intent at time of exchange. It definitely was their intent to rent continuously. I had always heard there was a two year rule but now that I read 2008-16 they do not meet the safe harbor. If original facts and circumstances prevail then under the facts provided to me, she is safe moving into the home.
 

#8
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14 days per year not month
 

#9
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I think I have a somewhat similar situation but with possibly some additional complexities, where a taxpayer purchased a rental property under a 1031 exchange back in June 2018 and would like to move into that property later in 2022. They also currently live in half of a duplex, with the other half rented out, but there was no 1031 exchange on that property when it was purchased in September 2018. They are looking at selling the duplex, and then moving into the other single family home that was a 1031 exchange. They weren't planning to do that initially, but began to look at the market and realized they can't afford to get into another home so they are updating that 1031 property with the intent to move in there after the sale of the duplex. Having lived in that duplex as their primary residence, they will claim the 121 exclusion for their half of the property and pay the appropriate cap gain/depreciation recapture on the other half. My question is on the property they plan to move into, if they're able to do so without triggering a taxable event this year? And, if they later sell it after living in it for 5-10 years, could they take the 121 exclusion at that time, with the exception of the required depreciation recapture? What else needs to be considered here?
 

#10
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As others have said, intent matters so it should be fine. But additionally, she meets the safe harbor because it was rented during at least 2 years. I think the "14 days" per year part is because if it's rented less than 15 days in a year it is excluded rental income. So basically it has to be included as income for 2 years - 2020 and 2021.

For MTS, it sounds fine to move in there since it's been a rental for a few years. Just remember there's the whole disqualified use period thing with 121 that reduces the exclusion.
 

#11
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MilesR wrote:As others have said, intent matters so it should be fine. But additionally, she meets the safe harbor because it was rented during at least 2 years. I think the "14 days" per year part is because if it's rented less than 15 days in a year it is excluded rental income. So basically it has to be included as income for 2 years - 2020 and 2021.

For MTS, it sounds fine to move in there since it's been a rental for a few years. Just remember there's the whole disqualified use period thing with 121 that reduces the exclusion.


Not sure I understand your statement. If she lives in it for at least 2 years from the time she converted to main residence there should be a full exclusion with depreciation recapture.
 

#12
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Thanks for the input. So, the taxpayer used the 1/2 of the duplex from the date of purchase and never rented that side out, so disqualified use wouldn't apply to the sale of that property this year. After moving into the other single-family property here in 2022, if they sell that down the road and meet the 121 exclusion requirements, it seems like they'd have to account for disqualified use since it was first rented prior to moving in. I believe that's a change made as part of the 2008 Housing and Economic Recovery Act which requires gain recognition calculated based upon that rental period prior to making it their primary home.
 

#13
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MTS wrote:Thanks for the input. So, the taxpayer used the 1/2 of the duplex from the date of purchase and never rented that side out, so disqualified use wouldn't apply to the sale of that property this year. After moving into the other single-family property here in 2022, if they sell that down the road and meet the 121 exclusion requirements, it seems like they'd have to account for disqualified use since it was first rented prior to moving in. I believe that's a change made as part of the 2008 Housing and Economic Recovery Act which requires gain recognition calculated based upon that rental period prior to making it their primary home.


I had forgotten all about the 2008 Housing and Economic Recovery Act. From what I now remember, no matter when you sell as your primary residence even if 10 years after occupying it, there's still some kind of numerator and denominator to calculate the non excluded gain. Thanks for bringing this up - a lot has happened in 14 years...
 


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