As many investors are aware, property acquired in an IRC 1031 exchange may be converted from investment property to the taxpayer's principal residence. In short, a taxpayer could buy property in an exchange - having deferred gain from the sale of other investment property - and later convert that property to a principal residence. The previously deferred taxes may never be owned when the property is subsequently sold because the taxpayer is entitled to a principal residence exclusion under IRC 121.

IRC 121 provides a taxpayer with an exemption from taxes on the gain from the sale of the taxpayer's principal residence if the taxpayer uses the property as a principal residence for periods aggregating 2 years or more with the previous 5 years. The gain excluded from the payment of tax is $250,000 for individuals or $500,000 for married couples.

The new legislation--H.R.4520 provides, in pertinent part, as follows: If a taxpayer acquired property in an exchange to which a 1031 applied, 121 (a) shall not apply to the sale or exchange of such property if it occurs during the 5 year period beginning with the date of acquisition of such property.

Now, pursuant to this new legislation, a taxpayer intending to take advantage of the 121 exclusion with regard to property originally acquired in a 1031 exchange, will not be entitled to the 121 exclusion, unless the property has been held by the taxpayer for more than 5 years and used as the taxpayer's principal residence 2 of the 5 years.

Disclosure Note: This information is subject to interpretation and meant to help the consumer understand information surrounding a transactional nature for 1031 exchange. It is important to seek specific and individual guidance and information from you financial advisor. This information is merely an overview and is not intended to be exhaustive. Consult with your tax advisor to determine whether an exchange is appropriate for your circumstances.