Investors looking to buy Summit County real estate in Breckenridge, Silverthorne real estate, those in Frisco and Dillon, Keystone CO real estate, and/or more rural Montezuma CO properties and real estate investors thinking of developing Park County real estate may qualify for “Safe Harbor” from capital gains taxes by taking advantage of IRS Section 1031.
Although Summit County real-estate professionals see quite a few 1031 exchanges of second homes and vacation homes in Breckenridge area, it is important to note that the IRS does not allow taxpayers to claim a property as an investment if it is actually used more than 14 days a year for personal use. The rules are strict.
In March 2008, the IRS issued new guidelines for these “like-kind” or “Starker” exchanges to clear up previous confusion about Section 1031. Primarily used by real estate investors to defer taxes, if these criteria are not met, the sale will be subject to capital gains taxes.
The way the exchange works is this. An investor chooses to “relinquish” one investment property (the relinquished property) and to “replace” it with another investment property (the replacement property). All properties must be investment properties. The currently owned property, or the “relinquished property,” must be owned by the taxpayer for at least 24 months prior to the exchange (the qualifying use period). Qualified properties include a house, apartment, condominium, mobile home, boat or any like property that according to Section 1031 “provides basic living accommodations including sleeping space, bathroom and cooking facilities.”
Now is the kicker. During the qualifying use period, the owner must have rented the property at a fair rental for at least 14 days. The property owner may not have used the property for personal use for more than ten percent of the number of days that it was rented at fair value or for than 14 days, whichever is greater. For example, if a resort condo is rented out 100 percent of the time during five months of ski season (150 days), 10 percent of 150 days is 15 days. The owner cannot have used it for more than 15 days but may be present to check on the property and maintain it. The same is true for the second property.
All proceeds from the relinquished property must be used for the purchase of the replacement property to defer steep capital gains taxes. Swap them and the government transfers the basis of the old properties to the new ones.
Timing is also important. Investors must identify the replacement property within 45 days of closing of the first property and have 180 days to buy the new property. Section 1031 is a great boon if followed to the nth detail.
For answers to investment-property questions, contact Jonna Beardsley of Breckenridge Associates at 970-390-2533.
