If you’re an investor that has owned properties for a long time you may realize large capital gains when you sell your properties and be liable for the associated capital gains tax. There are essentially two ways to sell your rental properties and avoid paying tax; you can either use the primary residence exclusion or a 1031 exchange.
Eliminate the Tax by Using the Primary Residence Exemption
- Determine whether you are eligible to use the primary residence exemption. To qualify, you must have lived in the property for two out of the last five years, and you can’t have used the exemption at any time during the two preceding years.
- Convert the rental property into your primary residence by moving in and actually using it as a primary residence for a minimum of two years.
- Calculate the capital gain, and if it is less than $250,000 for an individual or $500,000 for a couple, then you can use the exclusion and pay no capital gains tax.
Defer the Capital Gain Tax Liability Through a 1031 Exchange
- List your property for sale and enter into an agreement with a 1031 exchange intermediate facilitator
- Sell the property and deposit the funds from the sale into a trust account owned by the facilitator
- Identify up to three potential replacement properties and give notice to the facilitator of the addresses of the properties within 45 days after you sell your original property
Purchase one of the properties you identified to complete your 1031 exchange within 180 days of when you sold your original property. Keep in mind that the property you purchase must be of equal or greater value of the one you sold
It may sound simple but you sure need to check with your legal counsel to insure you receive the best advise!