1031 exchange combined with 121 exemption
>Dear 1031x Comments: I have what appears to be a somewhat complex situation. My wife and I bought our home in 2003 (first home). It's technically a triplex, we live in the front 2/1 dwelling, and across the driveway is a separate dwelling that is split into two studio rental units. I've gotten a job offer in a different city, so we are considering selling. We bought for $765K, and the prop is worth somewhere in the neighborhood of $1.2mil now.
Here are my questions:
1) What is the most appropriate method for calculating the portion of the
gain attributable to the rental units? Our house in approx 1000 sq ft,
and each studio is approx 330 sq ft. Remainder of the lot (approx 1200 sq
ft of yard and parking) is used exclusively by us. According to the tax
records from when we bought, of the total $765K purchase price, land value
was $710K and bldgs only $55K. I think a good argument can be made that
the investment portion is the sq ft % of the total land, i.e. about 23%.
What do you think?
2) In July, one of our tenants moved out and we took over occupying that
unit (we'll call it Unit A). We use Unit A as part of our principal
residence, mainly as a guest room for my mother. Unit B continues to be
rented out. If I hadn't received the new job offer, we planned on keeping
this arrangement indefinitely. What are the tax consequences of having
done this?
3) Is the gain attributable to Unit A subject to the 121 exclusion? A
partial exclusion for the time we've occupied it, since the move is
"unexpected"? What if we hold off on selling our house (and don't buy a
new house in the new location and rent instead) and keep possession of
Unit A (without renting it) until we reach the 2-year threshhold?
4) Does it make sense for us to do a 1031 exchange for the investment
portion of our property by buying rental property elsewhere? If you think
our current occupation of Unit A doesn't meet the requirements for the 121
exclusion for the gain attributable to Unit A, would it otherwise qualify
for 1031? Or do we need to rent it out again for any length of time
before we can do the 1031x?
Appreciate and guidance you can give me. Thanks!
1) What is the most appropriate method for calculating the portion of the
gain attributable to the rental units? Our house in approx 1000 sq ft,
and each studio is approx 330 sq ft. Remainder of the lot (approx 1200 sq
ft of yard and parking) is used exclusively by us. According to the tax
records from when we bought, of the total $765K purchase price, land value
was $710K and bldgs only $55K. I think a good argument can be made that
the investment portion is the sq ft % of the total land, i.e. about 23%.
What do you think?
2) In July, one of our tenants moved out and we took over occupying that
unit (we'll call it Unit A). We use Unit A as part of our principal
residence, mainly as a guest room for my mother. Unit B continues to be
rented out. If I hadn't received the new job offer, we planned on keeping
this arrangement indefinitely. What are the tax consequences of having
done this?
3) Is the gain attributable to Unit A subject to the 121 exclusion? A
partial exclusion for the time we've occupied it, since the move is
"unexpected"? What if we hold off on selling our house (and don't buy a
new house in the new location and rent instead) and keep possession of
Unit A (without renting it) until we reach the 2-year threshhold?
4) Does it make sense for us to do a 1031 exchange for the investment
portion of our property by buying rental property elsewhere? If you think
our current occupation of Unit A doesn't meet the requirements for the 121
exclusion for the gain attributable to Unit A, would it otherwise qualify
for 1031? Or do we need to rent it out again for any length of time
before we can do the 1031x?
Appreciate and guidance you can give me. Thanks!
Dear S: Yes because of your dual use, change in use and change in place of employment your tax question is a bit involved. Yes you can perform both a 121 tax exemption on the larger part and a 1031x on the smaller investment part. As far as the percentages assigned to each use any reasonable basis for the division between principal residence use and investment use is OK. However, you must be consistent historically with currently. What I mean is that you cannot claim a larger percentage use for investment during your ownership period and a smaller one at the time of sale. EXCEPT in your case there has been a change of use on Unit A. Because you are moving for a new job you will be able to claim the principal residence portion AND on unit A all as tax exempt under IRC section 121. Then you will have a small gain attributed to unit B. This gain you can 1031 exchange or pay tax on. Also keep this in mind: The depreciation on unit A will also be recaptured even if you claim 121 exemption on Unit A. because of this recaptured depreciation issue on Unit A, you might be better off using 1031 to defer the taxes on both Units A and B, and claiming 121 exemption on the principal residence portion. I hope this helps. And that we can help if you decide 1031 exchange is the way to go.
Steve Hickox
Attorney / President
1031x.com has grown to provide many services to our clients as Castle United!
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1031x.com, Inc.
303.504.0144
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