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Case Study: Moving into 1031 Exchange Property

Waiting Period to Move into 1031 Residential Investment Property

One of the most frequently asked questions is, "I'm planning to exchange into residential investment property. Once I buy the property how long do I have to wait until I can move into it?" There are two answers: "No one knows," and "Longer is always better."

Kim's Unforeseen Life Changing Event

Kim (not her real name) was living in Southern California and completed an exchange for property in Washington that she had a renter for. Kim expected to rent out the property for five years then possibly move into it herself. Five days after closing Kim was laid off her job of 15 years. Her California residence was already listed for sale. Kim wanted to know if she could move info her rental property without losing the tax deferred benefit of her 1031 property exchange.

The Tax Code is Silent. This is one of many areas where the 1031 exchange tax code is "silent" on subjects we'd like answers to. In these cases we look at what we do know. Replacement property for a 1031 exchange should be property that the exchanger INTENDS to hold for investment. In other words, "like-kind" treatment to investment property being sold. The keyword is INTENDS. The code doesn't stipulate the time period.

Converting the Nature of the Use of the Property

Most tax preparers advise waiting twelve months or more before moving in, although, we've had many situations where it has happened earlier. It's called "converting the nature of the use of the property." Arguable justifications for conversion periods of less than one year are things that would be considered "life changing events" such as unemployment, drastic change in heath, or the property was not rentable.

Kim's accountant concluded that being laid-off was an unforeseen life changing event that should justify converting her new property into her residence at this earlier time period.

Does intending to move into a property in the future disqualify an exchange? NO! You may intend to move in. However, it's just one of your options. For example, if you won the lottery right away you'd probably buy a nicer home. We're allowed to freely move in and out of any property that we own. The taxpayer would not have thought it an issue if they decided to move into their original rental instead of selling it. That is fine. We just stop having rental income and no longer enjoy any depreciation deduction while we are living in it.

The IRS knows people do change the nature of their use of property and, as far as we know, they have not challenged any taxpayers' 1031 conversion. Our best advice is still "longer is better".

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