Using an Exchange to Aquire Your Dream Retirement Home... Buy Now, Retire Later!

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Real Estate Agent with Alain Pinel Realtors BRE# 00796211

In my last post I offered a short history and explanation of 1039 exchanges with the recent update that the IRS has finally issues a regulation that you must rent income property out at fair market rent for 2 years after obtaining it through an exchange before moving into it to establish it as your own personal residence. So, the question is, how can I use this information to help me to plan my retirement?

First, current market conditions have created an absolute bonanza for savvy real estate investors in many areas of the country. If you plan to retire to any of the communities that have been hit by the mortgage meltdown there will be a large number of properties for sale at ridiculously low prices. This is the best buyer's market we have seen since the great depression. Ultimately we will get out of this crisis and properties will resume their inevitable climb back up. But you can exchange now into a home that you might ultimately want to retire into, for a very low purchase price. The trick is that you must rent it out at fair market rent for at minimum of 2 years. After that, if you decide to retire to that community, you can move into the house and convert it to your own personal residence without having to pay the taxes that were deferred when you purchased it as an investment property.

 Here is a second scenario. Perhaps you would like to move to the area that you have exchanged into but you don't want to live in the property that you purchased. After renting it out for at least 2 years you can move into it for 2 years to establish it as your personal residence. They when you sell it in order to buy your dream retirement home, you can retain $250,000 of your profit if you are single or $500,000 if you are married, tax free and buy the home you really want.

I have clients who have done this several times in succession. First they sold their personal residence and moved into an investment property they owned, keeping $500,000 from the sale of their personal residence tax free. Two years later they sold the investment property that they had moved into and kept another $500,000 in profits, tax free. They then moved into another investment property that they owned, lived there 2 years to establish that one as their personal residence, and sold that one, keeping yet another $500,000 tax free. They repeated this one last time and eventually sold that property, keeping $500,000 of the profit tax fee. They started this process 10 years prior to their actual planned retirement. It required a total of 4 moves but they ended up with $2 million tax free with which to purchase the retirement home that they really wanted, with lots left over to live on as well.

In case you think you may not make $250,000 or $500,000 profit in just a few years, remember that your basis will be the basis of the property you exchanged from (because you carry the basis with you in an exchange.) So, if you owned a property for a long time before exchanging into the current property, you may have more profit than you imagined. It gets even more complicated because the depreciated value is subject to recapture rules. Also, if you acquired a property in an exchange you have to own it at least 5 years AND live in it for 2 of those last 5 years in order to qualify for the $250,000/$500,000 exemption, so be sure to see a tax consultant before you do anything to make sure you know all the rules and everything works in your favor.

If you purchase or exchange into a property as a rental, you do have to rent out the property at fair market value. In most of these communities the rental market has actually improved so it should be a safe investment, but you have to do your homework. Also, not that the taxes are deferred when you do an exchange, but they are not forgiven. The deferred taxes will be due when you eventually do sell the property or when you die.

I do have to warn you that the exchange rules are more complicated than I have indicated here and in my previous post, and also that I am not a tax professional.  You always should consult with a tax professional if you are considering and exchange to make sure you know all of the details and that it will work in your particular situation. 

 

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Rainmaker
535,099
Kenneth Cole
Weichert Realtors Appleseed Group, 2043 Richmond Ave. S.I.N.Y. 10314. office phone 718-698-9797, Appleseedhomes.com... - Staten Island, NY
NYS Licensed Real Estate Salesperson

Lynne, suppose when I retire in 20 years, taking early retirement at 85, I decide that I like it where I am?  What do I do with my profit?

Jul 11, 2008 01:40 PM #1
Rainer
5,941
Lynne Mercer
Alain Pinel Realtors - Palo Alto, CA
Making Dreams Come True!

Kenneth,

I am not sure I understand the question. If you like where you are and you stay there, there is no profit. You may have a lot of equity that you could tap into. That would require refinancing.. either taking out a straight loan or maybe a reverse mortgage. Is that what you meant?

Jul 11, 2008 01:48 PM #2
Rainmaker
535,099
Kenneth Cole
Weichert Realtors Appleseed Group, 2043 Richmond Ave. S.I.N.Y. 10314. office phone 718-698-9797, Appleseedhomes.com... - Staten Island, NY
NYS Licensed Real Estate Salesperson

I was talking about buying a retirement home, renting it out, thinking that when I retire in 20 years, the house will be paid for.  But, If I don't want to go there, then I would just sell it.

Jul 11, 2008 02:01 PM #3
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Rainer
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Lynne Mercer

Making Dreams Come True!
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