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R E A L
E S T A T E
Call
them "accidental landlords"—people who
somehow end up living in one city but owning
and renting out a house in another. This situation
often arises when a job offer leads to a quick
move with no time to sell a former house.
And once you start renting out your old house—converting
it from your primary residence to a business
asset-you could lose the right to sell it
without paying capital gains taxes on your
profit.
Unless
you know how to play the tax code. Consider
the story of Deborah and Paul McKeen, formerly
of Tucson, Ariz. They departed a few years
ago, but held on to a small house in Tucson
and rented it out. Last year, tired of being
absentee landlords and wanting to move closer
to their families in New England, they decided
to sell the Arizona house and apply the proceeds
toward buying one in Maine.
They
offered the house for $123,000, or $59,000
more than they had paid. Based on that price,
they stood to owe $20,000 in combined federal
and state capital gains taxes. Then a real
estate agent told the couple how they could
unload the house in Tucson and put all the
proceeds toward a house in Maine with no capital
gains taxes due. The catch: They wouldn't
be allowed to move into the Maine house right
away but would have to rent it out for at
least a year.
The
strategy is called a Section 1031 exchange,
in reference to the part of the Internal Revenue
code that describes tax-free swaps of business
property. Corporations use it to sell assets
and replace them with other similar assets
without paying capital gains tax. Individuals
can use it, too.
In
the simplest situation, two similar properties
are swapped-your factory in Arizona for my
factory in Maine. In real life, though, it's
unlikely that anybody who wants to own the
factory in Arizona also happens to want to
unload one in Maine. So the courts permit
a quick shuffle using an intermediary. You
line up someone to sell you a property in
Maine and someone else to buy the property
in Arizona. The presence of the intermediary
allows you to maintain the fiction that you
aren't buying and selling, you're just swapping.
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Trading places
By
Julie Androshick
June 14,
1999
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appeared in... |
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The
middleman, called an exchange accommodator, might
work for a specialist exchange company (often,
a subsidiary of a title, escrow, accounting or
law firm). You have 45 days from the sale of your
old property to specify what you want to buy,
then 180 days to buy it. You can't touch the money
in the meantime. To avoid tax, you must buy a
new property worth at least as much as your old
one.
You
can even use a Section 1031 swap to buy your future
retirement house, rent it out for as many years
as you like, then move in.
Now,
about that catch: Section 1031 was written to
help businesses, not to let you sell your old
residence tax-free and buy a new one. So you've
got to act like a business. You must rent out
your new house for at least 12 months and a day
to bona fide tenants paying market-rate rent.
But there's nothing to stop you from moving into
your new house after that. You can even use a
Section 1031 swap to buy your future retirement
house, rent it out for as many years as you like,
then move in.
And
here's the kicker: Once you've used the new house
as your primary residence for more than two years,
you're eligible to sell it with the usual residential
capital-gains tax exemption on up to $500,000
of profit ($250,000 for single people). That means
you may never pay capital gains tax on profit
from your original house (the one you swapped
out of) or the new one.
There
are around 200 exchange firms, though many real
estate attorneys can handle the work as well.
The McKeens, who ended up swapping for a $150,000
house in Kittery, Me., used Professional Exchange
Accommodators in Denver. To swap one home for
another, expect to pay an exchange fee of $500
to $1,500, depending on the value and location
of the properties.
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| Can
you sell your house in 2016?
Economists,
like meteorologists, can predict the distant future
with remarkable accuracy when they focus on seasons.
In 2010 February will surely be colder than August,
and just as surely, there will be 20 million more
middle-aged households than now.
What
if they all retire to sunny climes and their homes
in Greenwich, Conn., Boston and Seattle become
a drug on the market?
"It's
an interesting idea," says Nicolas Retsinas, director
of Harvard's Joint Center for Housing Studies.
"I'll be turning 65 in 2011, among the first of
the baby boomers to do so. But what makes you
so sure I'll want to leave? Our recent work shows
that people like to stay in their homes as they
age."
One
sign, he says, is the steady, but less-than-explosive
growth in assisted-care housing. Of course, many
empty-nesters trade down, but that requires someone
else who's trading up. Whom can we count on to
take the torch from the biggest demographic bulge
in U.S. history?
"First,
immigrants," says David Berson, chief economist
at Fannie Mae. "We've had more in the 1990s than
in any other decade of the 20th century, and study
after study has shown that after immigrants are
here for ten years, their homeownership rates
skyrocket. Then, ten years later, the children
of baby boomers-the echo boom-will start buying,
in some cases from their own parents."
If
the numbers don't work out perfectly, the growing
demand for second homes will paper over the cracks.
Supply will also adapt. Last year there were 1.3
million starts on single-family homes, as compared
with 68 million homeowners. If demand drops a
little, construction will drop a lot.
So
go ahead and buy that big, old house you crave.
--Philip
E. Ross |
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