Bankers Exchange Services

The eldest segment of an American generation affectionately known as the baby boomers, are now entering their retirement years. They are a generation of individuals born post World War II, between the years of 1944 and 1964. The baby Boomers encompass a population of approximately 78.2 million people as of July 2005. Real Estate is said to have been the investment of choice for this generation and now with a flat market that may continue to deflate, this semi-conservative group may have to re-think their investment choices. This becomes increasingly important due to the uncertainty of pension plans or social security seeing them to the end of their golden years.

In 2005 the IRS issued a revenue procedure (Rev Proc 2005-14) which allows for Sections §121 and §1031 of the Internal Revenue Code to be combined for maximum tax benefit. Section §121 allows homeowners to sell a primary residence every 2 years and exclude up to $500K, of the gain for a couple filing jointly, or $250K of the gain for an individual.. Section §1031 allows a person to sell investment real estate and defer the capital gains tax if the proceeds are traded into another investment property.

Combining these two sections together can potentially save investors (of any generation) hundreds of thousands of tax dollars. Here is how it works.

A married couple whom we will call John & Suzy Investor own 2 pieces of property. One is a rental property and the other is their primary residence. John and Suzy own their primary residence free and clear and its current value is $500K. Their rental property is valued at $250K. They sell their personal residence and take their IRS Section §121 exemption and pocket the $500K tax free. They then convert their rental house into their primary residence and live there for 2 years. After 2 years they decide to sell their current primary residence (formerly their rental) which since they have lived there has appreciated in value and is now worth $500K. In a two year time frame they have sold two pieces of real estate and walked away with $1million in tax free money. Now, let’s say John and Suzy’s residence has tripled in value in this same 2 year period and is now worth $750K. They could take their $500K Section §121 exemption and defer the additional $250K gain by utilizing a 1031 tax deferred exchange and buy another investment/rental property, and use the 2 out of 5 year rule. If a property has been a primary residence any 2 years out of the previous 5 (they need not be consecutive years) both IRS Sections can be combined for maximum tax benefit.

The above is just one of many ways in which to combine these two IRS Sections in order to maximize tax benefits. Click here for a detailed explanation of Rev. Proc. 2005-14. For more information on how to get the most tax savings on your real estate investments give us a call at (877) 989-1031. Bankers Exchange Services headquartered in Walnut Creek, CA specializes in 1031 tax deferred exchanges.