Now that the real estate market is picking up, it may be a good time to sell or upgrade your vacation home. Instead of selling your vacation home to buy a new one, you might want to consider a “like-kind exchange” under the provisions of Internal Revenue Code § 1031. The point of a like-kind exchange is to defer taxable gain on disposition; however, there are many issues that must be navigated.
Generally, the IRS has held that gain or loss from an exchange of a personal residence may not be deferred under IRC § 1031. This is due to the fact that a personal residence is not income-producing property used in a trade or business or held for investment.
For vacation homes that typically have some personal use and some rental use, the IRS provides specific guidelines for like-kind exchanges in Revenue Procedure 2008-16. A like-kind exchange of a vacation property will not be challenged if the home meets all of the following criteria:
The taxpayer has owned the property for at least 24 months immediately before the exchange.
In each of the two 12-month periods immediately preceding the exchange, the home was rented to another person for 14 days or more at fair rental value, and
In each of those years, the taxpayer’s personal use of the home did not exceed the greater of 14 days or 10% of the number of days that the home was rented at fair rental value.
For the replacement property, the taxpayer must also satisfy the above rental and personal-use criteria for the 24 months following the like-kind exchange.