The Exchange of Vacation Properties

Many taxpayers have vacation properties, maybe in mountain or beach areas, they rent out for a period of time in a year and also use for their personal use during the year. Does the fact that they use the property personally disqualify it from 1031 treatment?

The IRS issued Private Letter Ruling 2008-16 which speaks to the subject of doing an exchange on these types of properties. This PLR provides a safe harbor when certain criteria are met.

For the property to be considered like-kind, the taxpayer must own the property for a minimum of 24 months. If we break down the 24 months to two 12-month periods, the taxpayer must rent the property at a fair market value for a minimum of 14 days in each 12-month period. Also, the taxpayer may not personally use the property for more than 14 days each 12-month period, or 10% of the days that the property was rented during that time, whichever is greater.

To meet the safe harbor established through this PLR, it is best that the property is rented to an unrelated party for the required 14 days per year. In doing so, the taxpayer should be declaring this income on their taxes, as well as deductions for maintenance and other expense items.

A key item to remember – just because a taxpayer believes that the property will appreciate does not make it an investment property. The amount of time in the property of personal use will define if it qualifies as investment or not.

The 1031 Exchange is a vital tool in the real estate investor’s arsenal. Always consult with your tax professional to see if the 1031 Exchange make sense in the specific situation and reach out to our team of professionals at Security 1st Exchange to assist with any questions and to work with you on your next 1031 Exchange transaction.