Some real estate experts predict that vacation homes will appreciate in value due to rising demand from the aging Baby Boom generation. You also can depreciate the property if you live in the house fewer than 14 days a year, or 10 percent of the number of rented days - whichever is greater.
You also need to consider whether you can afford to carry two mortgages, pay for the extra utilities and maintenance costs, and how this investment fits into your total personal finance picture.
Investment real estate can offer significant tax benefits both during ownership and at the time of resale or tax-deferred exchange. Not only do most investment properties appreciate in market value, but they also produce significant tax savings.
The IRS has a helpful publication (Publication 527, entitled "Residential Rental Property," available online at www.irs.gov/publications.
You should also note that Congress in the summer of 2008 has changed the capital gains rules for second homes or vacation homes. The former law, allowed you to sell your principal residence and take up to $250,000 of tax-free profit ($500,000 if filed jointly) as long as you owned and lived in that home for two of the five years immediately preceding the sale.
You were than allowed to move into your vacation home or a rental property and, if you lived there for at least two years, you got a second $250,000 ($500,000 if filed jointly) round of profit.
No longer. To help pay for the big housing bill, Congress has changed the rules so that some of your gain will be taxable if you convert your vacation home or rental unit to a primary residence after 2008.
Real estate tax code provisions can and do change at the whim of Congress. Before buying or selling real property, be sure to obtain advice from your own tax or legal advisors for the most current laws and regulations.
- Vacation home - the relinquished property (this is your old property, the one you sold in the exchange)
Your old vacation home will now qualify as 'relinquished property' if:
- Vacation home - the replacement property (this is your new property, the one you purchased within the exchange)
Your new vacation home will qualify as replacement property if:
It should be noted that even if a family member pays fair market rent value, the use of the relinquished or replacement property by a family member will be considered 'personal use' unless the property is determined to be the principle residence of the family member. Also, any time you loan the use of the property to anyone not paying you fair market rental, the use will be considered 'personal.'
It should be taken for granted that the '§1031 Exchange' of vacation homes will be subject to very strict review and narrow interpretation by the IRS, therefore, they should be carefully planned and entered into only with the guidance of a qualified tax advisor.
See also >> A Guide To 1031 Exchanges.