Thinking of selling your non-primary residence or vacation home? You are most likely going to pay capital gains tax unless you do the following.
One way to avoid capital gains tax on a vacation or investment property is a 1031 exchange. This involves using the profits of the sale to purchase another investment property, thus putting the proceeds back into real estate instead of your bank account. New Construction may be a good way to go but you must meet the 1031 timelines and guidelines.
You must follow strict identification and timeline rules for a 1031 exchange to the letter:
- You must identify the exchange properties in writing within 45 calendar days of the closure for the relinquished property in accordance with one of the following rules:
o Three-Property Rule: Identification of up to three properties regardless of the total value of property identified
o 200% Rule: Identification of any number of properties wherein the combined FMV (fair market value) does not exceed 200% of the relinquished properties' FMV
o 95% Rule: Identification of any number of properties regardless of the aggregate FMV, as long as at least 95% of the property is ultimately acquired.
- You must also close on the replacement property or properties within 180 calendar days of the closure for the relinquished property.
Other requirements include:
- You must hold the properties for productive use in a business or for the purpose of investment.
- The replacement property must be of equal or greater value than the property you sold.
- The equity of the replacement property must be of equal or greater value than the equity of the property you sold. It is important to note that you CAN NOT replace equity by acquiring more debt (with the exception of a 1033 Exchange).
- The debt held by the replacement property must be of equal or greater value than the debt held by the property you sold unless you offset lower debt on the replacement property by adding cash to the exchange.