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Merlo
Merlo, Accountant
Category: Tax
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Experience:  25+ years tax consulting. Specializing in returns for US citizens living abroad
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I bought a second house in 1999 for 75,000 in the same town

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I bought a second house in 1999 for 75,000 in the same town that I live in.My in laws live in it and pay rent which is less than the mortgage.I don't make anything,but my wife's parents are close and she's happy.I have an opportunity to sell this house for 185,000 and I have a new one picked out which I already signed the contract for 206,900.(in laws will move into). My mortgage for the second house was written up as if it was my primary residence even though it's not,but my accountant treats it as a rental property as far as taxes go.My question is:Is there a way to avoid the capital gains when I sell the first house?Isn't ther a one time exclusion up to 200,000 or won't that work because it's not really my primary residence?Will a 1031 exchange or a reverse exchange work or no because because it's not an investment property?Because if I call it a prim. resid., I get a lower rate which I can do accord. to 2 mortg. comp. as long as it is for a spouses elderly parents.What opt. is bett
Submitted: 9 years ago.
Category: Tax
Expert:  Marvin,EA replied 9 years ago.

Hello and thank you for using Just Answer. You wrote that your accountant treats it as a rental property. Did your accountant deduct expenses and deprecation on you tax return for the second house?

Customer: replied 9 years ago.
Yes
Customer: replied 9 years ago.
any other questions?
Expert:  Merlo replied 9 years ago.

HelloCustomer

I am trying to read through the past messages to see what has transpired here so I can give you an answer to your question. From what I have read, I am assuming that you are selling your "second" home which your in-laws currently rent from you, and this porperty was treated as rental property by your accountant, and he took depreciation on the property. If that is the case, then you could not classify that as your primary residence and would have to pay tax on the gain on sale of that residence at the capital gains tax rate of 15%. It does not matter that your elderly parents occupied the home, it is still considered rental property.

A 1031 exchange of that property for another property of like kind would enable you to exclude the gain, but that is the only way you would avoid the capital gains tax on that home.

If this answer has been helpful, kindly press the "Accept" key. Positive feedback is also greatly appreciated. Thanks for the question.

Merlo, Accountant
Category: Tax
Satisfied Customers: 9783
Experience: 25+ years tax consulting. Specializing in returns for US citizens living abroad
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Customer: replied 9 years ago.
I understand the 15% part,but I guess I'm asking who sees what?Does the second home have to be listed on the mortgage as an investment property for the 1031 to be valid?I will go through a tax attorney or accountant for the exchange,but I want to know how clear I have to be with the mortgage co. or if that doesn't matter?I want it to be right,but I also want to save a buck.
Expert:  Merlo replied 9 years ago.

Hello again grasshopper64,

The foundation of the 1031 exchange rule by the IRS is that the properties involved in the transaction must be "Like Kind" and Both properties must be held for a productive purpose in business or trade, as an investment. So your second home, which is now classified as a rental home, would qualify for the 1031 exchange on another rental home.

The 1031 exchange rule also lays down a guideline for the proceeds of the sale. The entire cash or monetary proceeds from the original sale has to be reinvested towards acquiring the new real estate property. Any cash proceeds retained from the sale are taxable.

The second fundamental rule is that the 1031 exchange requires that the replacement property must be subject to an equal or greater level of debt than the property sold or as a result the buyer will be forced to pay the tax on the amount of decrease. If not he/she will have to put in additional cash to offset the low debt amount on the newly acquired property

If this answer has been helpful, kindly press the "Accept" key. Positive feedback is also greatly appreciated. Thanks again.