Real Estate Exchanges for Vacation Homes

If you’re investing in a vacation home (or other dwelling units), there’s help available for determining whether the property qualifies for exchange treatment.

Revenue Procedure 2008-16 provides a safe harbor where the IRS will accept that the use of a dwelling unit qualifies for exchange treatment under Internal Revenue Code Section 1031.

• A dwelling unit is real property improved with a house, apartment, condominium, etc., and that provides basic living accommodations, including sleeping space, bathroom and cooking facilities.

Relinquished Property

A dwelling unit qualifies as a relinquished property if:

1. Owned by you, the taxpayer, at least 24 months immediately before the exchange (the “qualifying use period”); and
2. Within that period, in each of the two 12-month periods immediately preceding the exchange,
   • You rent the dwelling unit to unrelated persons at a fair rental for 14 days or more, and
3. The period of your personal use doesn’t exceed the greater of:
   • 14 days, or
   • 10% of the days the dwelling unit is rented at a fair rental during the 12-month period

The first 12-month period ends on the day before the exchange takes place (and begins 12 months prior to that day), and the second ends on the day before the first 12-month period begins (and begins 12 months before that day).

Replacement Property

For replacement property, 12 month periods are handled similarly as for relinquished property, looking into the future, not the past.

Property use is considered personal if used by:

1. You, the taxpayer, or any other person with an interest in the unit (including a tenant-in-common), or by any member of your family or such other person; or,
2. Any individual who uses the unit under an arrangement that lets you use some other dwelling unit (whether or not a rental is charged for the other unit); or
3. Any individual, if rented for less than fair market value rental

Safe Harbor

Safe harbor may provide some relief if you’re worried about past use of a vacation rental property.

Use by a family member of a fellow tenant-in-common counts against another tenant-in-common’s allowed personal use. You, the taxpayer, can rent the dwelling unit to a family member if the family member uses it as a principal residence (not as a vacation home) and the family member pays fair market rent. Some taxpayer use may be allowed for repairs and annual maintenance.

An exchange may still fall outside the parameters outlined above and still meet the statutory requirements of section 1031. Consult your tax advisor about your specific transaction.