Retail investors typically buy single-family homes or multiplexes for an exchange of 1031.
The most well-off exchangers tend to seek high-value commercial investment properties to complete their exchanges, especially when they attempt to strictly follow the IRS’s “like-kind” requirement by exchanging similar classes of assets, for example, the office of a multimillion-dollar property in exchange for another.
Main Street investors tend to focus on smaller four-plexes, tri-plexes, and single-family homes for their exchanges, as these assets tend to be more aligned with the properties they have sold. Suppose you’ve acquired residential property as part of a 1031 swap to live in the property eventually. In that case, you must do a few actions to ensure your exchange doesn’t get disqualified. You’re liable for an enormous capital gains tax.
You can’t make an exchange of 1031 directly into an individual residence Exchanges are limited to property exclusively used for investment or business use. You can also change an investment property to personal property if you adhere to the IRS regulations according to the letter.
In this article, we’ll examine how real estate investors can be able to reside in their exchange properties without having to disqualify their exchanges or creating an income tax on capital gains.
What Are The Reasons To Do A 1031 Exchange?
A 1031 exchange permits investors to delay paying capital gains tax caused by selling investment properties if they invest the profits into creating a “like-kind” property. The exchange of a standalone medical or retail building for another via a conversation of 1031s fits into the definition of “like-kind.
Investors may also trade into various residential investment properties, small multiplex apartment buildings, or a mixture of both based on the worth of the surrendered asset.
It’s what happened to one investor in the town of Austin. He was the owner of multiple investment properties. However, He wanted to sell these due to the maintenance and commitment to time. He sold the properties and then completed a 1031 exchange to purchase a luxury single-family investment property in an idyllic town just north of Austin.
If this investor in middle age retires, he’s planning to make the house his primary residence for his family. In this case, the investor will not be subject to any scrutiny by authorities like the Internal Revenue Service since his retirement is a few years later. He can prove that the property acquired via the exchange was used as an investment.
Investors in real estate who intend to live on an exchange house within a shorter time must follow the guidelines listed below to ensure that their exchanges won’t be excluded.
Converting A 1031 Asset Personal Property
If you have completed an exchange to a single-family house or small multiplex, be sure to follow these rules to avoid receiving an appeal to the IRS:
- The property needs to be purchased and kept for business or investment purposes. This requirement can be met by renting the property at a fair market rate at least 14 days a year. In addition, if you want to utilize the rental property for yourself in the event of a vacant property, however, there are some essential restrictions to your usage that you must comply with.
- You must keep the home for a minimum period of two years after the exchange of 1031.
- Personal usage should not exceed fourteen days or 10% of the total number of days that you have rented the asset over the 12 months.
If you’ve satisfied these conditions, you’ll be able to transform the asset into your primary residence if you decide to do so since you clearly defined your intent to keep the asset as a purpose of investment.
The Bottom Line
The characteristics of residential and commercial properties can change. Older anchor retail structures are now churches, or huge kid’s adventure centers smaller retail shops are transformed into tattoo parlors and vape shops.
Residential rental properties vary in character and depend on the investor’s strategies. Suppose you can convert an exchange property from 1031 to an individual residence and satisfy the above criteria. In that case, you’re probably in good shape and won’t trigger an IRS opposition to your swap. It’s a good idea to speak with a knowledgeable tax and legal experts before making any changes to ensure that your exchange complies with IRS requirements.