We all know that IRS 1031 Exchanges are a powerful way to get what amounts to a tax free loan to buy real estate from Uncle Sam, and that every dollar saved can be leveraged to help build wealth. We arte also told that the exchanges must be “Like-Kind” and that you cannot, under any circumstance, defer taxes for your primary residence. Or can you?

The IRS prohibits using a 1031 exchange for the purchase of a new home. However, there is an exception to that rule. If the investor rents out a home for two years following the exchange, or tries to rent for market rates, or simply holds the home with very limited use, that house can then be converted to the investor’s place of residence, since the home was initially used to fulfill the stipulations of a 1031 exchange, which specify that an investment house must be replaced with another investment house.

If an investor chooses to take that route, after five years from the date of the new home’s purchase, that home can then be sold and the taxes excluded, due to an IRS exclusion for the sale of a primary residence, which can be $500,000 for married couples and $250,000 for an individual.

I can think of some really nice Lake homes and condos that could be used in this manner. There are two ways to defer taxes indefinitely, one is to die so your heirs get a “stepped-up” basis, or converting a rental and following the two year and five year rules. I prefer the latter, myself.

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