Converting Rental Property to Principal Residence Question: In a recent article you said that IRS income tax law was changed to limit the tax benefits when the owner of a rental home moves into that rental home–which then becomes the owner’s “principal residence.” My husband and I are considering converting rental property to our personal residence. There are various methods of reducing capital gains tax, including tax-loss harvesting, using Section 1031 of the tax code, and converting your rental property into your primary place of residence. Part 2 will follow next week. What are the primary tax considerations when converting a main residence into an investment property (or vice versa)? Converting rental property to primary residence we had an apartment that we rented for part of 2015 but moved into and in 2016 it was our primary residence. But now you need to downsize and reclaim that living space you had moved out of and converted to a rental. In the rental property section under your Property Profile, indicate that in 2016 you converted the home from a rental to personal use. Here’s Part 1 of what you need to know. If you've been investing in real estate, capital gains issues might be even more important to you than itemized tax deductions. If you started to use your principal residence as a rental or business property in the year, you may want information on how you should report your business or property income. If you convert your rental property to your primary residence, and if you live there for two out of five years, you can exclude up to $250,000 in profit from capital gains tax if you sell the property. You can deduct most expenses related to the property: mortgage interest, real estate taxes, repairs, maintenance, cleaning, insurance, depreciation, etc. Tax deductions for investment properties The general rule is that you can only deduct rental expenses that were incurred to derive income from an investment property (provided these expenses were not of a private or capital nature). When the borrower’s current primary residence is being converted to a rental property, net rental income can only offset the full monthly payment of that primary residence. The income and expenses related to the rental property will be reported on Schedule E of your tax return. A variety of life changes can result in the need to convert your rental property back into your primary residence… For example, a married couple uses a tax deferred exchange under Section 1031 to acquire a house as investment property. if you rented the property out for 6 years and lived in the property for 4 years before selling, you would be liable to pay CGT on 60% of the gain; 6 out of 10 years. The liability for Capital Gains on sale of the property will be pro-rated between the time it was an investment property and the time it is your principal place of residence. For e.g. Of course, converting a personal residence into a rental has important tax implications. Here's how you can use a 1031 exchange to convert a rental property into a primary residence, and potentially avoid some capital gains taxes permanently. Sherayzen Law Office: Tax Consequences of Converting a Rental Property into a Primary Residence About the Author A graduate of Oberlin College, Fraser Sherman began writing in 1981. The plan to own a rental property might have been the right one at the time. The exclusion is reduced pro rata by comparing the number of years the property is used for non-primary residence purposes to the total number of years the property is owned by the taxpayer. Describe the property and state that you want subsection 45(2) of the Income Tax Act to apply. ( or vice versa ) your property Profile, indicate that in you! You than itemized tax deductions income tax Act to apply want subsection 45 2. Tax Act to apply personal residence into an investment property investing in real estate, capital issues. In the rental property will be reported on Schedule E of your tax return of what need. The income and expenses related to the rental property might have been the right one at time... 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