Should I Sell or Lease My Property?

If you are relocating or moving to a larger or smaller home, it’s best to determine whether it's in your best interest to sell your current residence or lease it. In making this decision, however, it’s imperative that you consider the tax implications your decision will have on your personal financial situation.

Reasons to Sell:

• If you need the equity in your current home for a down payment on a new one.

• If you sell your primary residence for a profit, and you qualify for a special tax break that helps put your next home within financial reach, since the tax law generates 100% tax-free home sale profits for qualifying taxpayers who sell their homes.

• If you qualify for this special tax law, which replaces the previous deferral-of-gain rule requiring you to purchase a replacement home within certain price and time limits.

• If the exclusion for home-sale profits applies to you. Under the current rules, if you have owned and lived in the home as a primary residence for at least two of the five years preceding the sale, you may exclude up to $250,000 of profit from taxation, if single, and up to $500,000 from taxation, if married filing jointly. Generally, this exclusion may be used only once every two years.

Reasons to Lease:

• If you’re a homeowner who puts your former primary residence on the market and then encounters difficulty in selling it, and you’re able to rent it for a temporary period while still deferring gain on the sale.

• If you have time to properly plan to allow gain on the sale of your rental to meet the requirements for the home sale exclusion. From there, you can convert the property to your personal residence prior to the sale.

• If you meet the two-year ownership and occupancy requirement, and can take advantage of some or all of the gain on the sale to qualify for the exclusion.

• If you have found a new home but cannot or do not want to sell your old home yet, you can rent the old home for up to three years, and still qualify for the gain exclusion. The rental for three years will mean that you used the house as a primary personal residence two of the past five years and any gain at the sale will be excludable, except for depreciation taken after May 6, 1997.

• If the rental period allows you to get a better price in a slow seller's market, allowing you to take advantage of the escalating real estate market, or change your mind and move back to the old house.

• If selling your house would otherwise result in a nondeductible loss, since coverting it to a rental property may allow you to eventually recognize a tax-deductible loss upon subsequent sale of the property.

The decision to convert your personal residence to a rental property is often made as the result of your inability to sell the property at a gain or your desire to retain the property for future personal use. Converting your former residence into a rental property may offer you excellent financial rewards by providing you with the opportunity to generate a steady income. Although you cannot defer the gain on the sale of a rental property as an owner, you are entitled to a wide range of tax deductions that can sharply reduce your tax bill. Mortgage interest, property taxes and costs associated with operating and maintaining the rental property, including insurance premiums, repairs and depreciation, may be deducted from rental income. Net losses (generally up to $25,000) can then be subtracted from your gross income. Losses you are unable to deduct in the year that you incurred them can be carried over into future tax years.

However, the property's basis for depreciation and subsequent loss on disposition is the lesser of adjusted tax basis or Fair Market Value at the time of conversion. Therefore, it is imperative to obtain and document the property's adjusted tax basis and Fair Market Value at the date of conversion. If you intend to incur major renovation or remodeling costs, these costs should be incurred after the property has been put up for rent, as this may allow for a higher depreciable basis of the property and turn repairs into deductions.

Since special tax rules apply in the year a property is converted to a rental and in the year of sale, you should consult with a tax professional before making this conversion.