capital gains on my own home selling on L/O

[SouthWestHomeBuyer 0]

I have a question. How would i be taxed on my own home that i have lived for 1 yr. and now lease optioning. Would the irs cosider this a sale when i sign the lease option disallowing the 2 yr rule. Or can this be hidden or shielded so i would not be hit with the cap tax? how would i structure this for tax purposes?

 

Thanks for your help

 

Mike S. AZ

[Dave T 0]

Mike S.,

 

I am assuming that you did not live in the property prior to your ownership, and that for this discussion your period of occupancy started with your ownership. If this is not a correct assumption, then my response might change in accordance with your actual circumstances.

 

The "two year rule" has two components -- OWNERSHIP and OCCUPANCY. To satisfy the two year rule to exclude profits from the sale of your primary residence from capital gains taxes, you must BOTH own the house for two years of the five years prior to the sale AND occupy the house as your primary residence for two of the five years prior to the sale. The two components do not have to be met concurrently.

 

It appears that you have not satisfied either component yet, since you have only owned the property for one year, and are no longer living in the property. Therefore, when your tenant-buyers exercise their option, profits on the sale will be taxed as a long term capital gain. The current maximum capital gains tax rate is 15%. All allowed depreciation you took (or should have taken, whichever is greater) will be recaptured at 25%.

 

Since you have already taken actions that determine the tax treatment on the sale of your property, it is too late now to be asking how to structure the deal to avoid paying capital gains taxes.

 

You asked if this transaction is considered a sale when you enter into the lease option agreement. The answer, for tax purposes, is no. A sale will occur only when the option is exercised. Until then, you are simply operating an investment rental property. Report your rental income and operating expenses on Schedule E when you file your tax return. Don't forget to take your depreciation expense, too.

 

For tax purposes, any option consideration you received is not recognized as taxable income until either the option is exercised, or the option expires. If the option is exercised, the option consideration becomes part of the proceeds of the sale and is taxed accordingly. If the option expires, the option consideration is taxed as a short term capital gain, regardless of the option period.

 

If your tenant-buyers fail to exercise their option, and instead decide to vacate the property, you get another chance to derive the maximum tax benefit from the sale of your property. When you get the chance to retake possession, move back into the property as your primary residence. Let's say you occupy the property for two more years as your primary residence and fully satisfy the two components of the two year rule. Now, you can sell the property -- use a lease option if you want to -- and exclude your profits from appreciation from capital gains taxes, as long as you have both owned and occupied the property as your primary residence for an aggregate of two of the five years prior to the sale. Since you did use the property as a rental for a period of time, you will still have to pay the depreciation recapture tax.

 

Any actions you may take to "shield" or "hide" your transaction from the IRS may be construed as tax evasion. I am not a proponent of tax evasion. You will have to find the answer to this question elsewhere.

 

Please consult a professional tax advisor for specific details as they relate to your circumstances.

[SouthWestHomeBuyer 0]

Thank you Dave,

 

This is what i am talking about. Real honest answers to hard questions. I hope some day i can too participate with my knowledge of the business. I am knowledgeable in construction and land development so if anyone has a question there i would surely help.

 

And Dave I have not moved out yet, but i have owned it for a year now. When i do lease it , what if i just said i lived there , changed my mailing to aPO box? I know its not ethical to rip the IRS off . i know... Iknow.

 

MikeS. AZ