Taxation & Estate Planning

SOME PERSONAL USE OF DWELLINGS WILL NOT JEOPARDIZE SECTION 1031 EXCHANGE

By Charles Rubin

Section 1031 exchanges are a popular mechanism for owners of real property to exchange one property for another without recognizing gain on appreciation at the time of the exchange. To qualify, the property being disposed of (the "disposition property"), and the property that is acquired in the exchange (the "replacement property"), must both be used in a trade or business of the taxpayer or held for investment.

Personal use of a dwelling unit (house, condominium, etc.) likely disqualifies a dwelling from being characterized as being used in a trade or business or held for investment, and thus will disqualify a swap of that property from Section 1031 treatment. In a break to taxpayers, the IRS has now issued that guidance that provides that a small amount of personal use by the taxpayer will not jeopardize Section 1031 treatment, if the property is rented out by the taxpayer.

The requirements of the safe harbor are:

-in each of the two twelve month periods leading up to the swap (a) the taxpayer owns the disposition property, (b) the disposition property is rented out at fair value for no less than 14 days, and (c) the taxpayer personally used the disposition property for no more than the greater of 14 days or 10% of the days the dwelling was rented; and

-in each of the two twelve month periods after the swap (a) the taxpayer owns the replacement property, (b) the replacement property is rented out at fair value for no less than 14 days, and (c) the taxpayer personally uses the replacement property for no more than the greater of 14 days or 10% of the days the dwelling was rented.

Revenue Procedure 2008-16

Full post as published by Rubin on Tax on February 21, 2008 (boomark / email).