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George Saenz, the Bankrate.com Tax Talk columnistReal estate investments and capital gains taxes

Dear Tax Talk,
I recently bought an investment property. For the last month or so, I've been fixing it up. Originally, my plan was to resell it when I finished with the renovations (probably within four to five months), but now I'm reconsidering. I have several questions regarding capital gains taxes on real estate investments:

1. If I resell in less than a year, will I be subject to short-term capital gains taxes or are all real estate investment gains taxed at the same rate regardless of how long the property is held?

2. With the 1031 exchange of like property, if I sell this property within a year (say seven months) and buy another property of like kind within the specified time-frame, and then sell that one within a year of purchase (say another seven months), how are the gains taxed? Would I add together the time I held the two properties to determine short-term vs. long-term gains, or would I simply look at the length of time I held the last investment?
-- K.L.

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Dear K.L.,
Gain on the sale of real property is categorized between long term and short term based on the date it is acquired and the date it is sold, just the same as stocks and bonds. If you sell the property within five months of purchasing it, you will have a short-term capital gain. Short-term capital gains are taxed at the same rate as ordinary income, which can be as high as 35 percent. Long-term gains are taxed at the maximum rate of 15 percent. A long-term gain is gain on the sale of property held for more than one year (that is, one year and a day).

The holding period of property acquired in a like-kind exchange dates back to the date of the exchanged property. That is, if you exchange the renovated property for similar property and later sell the second property, you would use the date you acquired the first property to determine your holding period and whether the gain would be long or short term. As you said, you would add together the time you held both properties.

You could also get long-term gain treatment if you defer the sale of the first property by entering into a delayed closing with the prospective buyer. For example, you can give the buyer a lease option that could be exercised after you meet the one-year requirement.

To ask a question on Tax Talk, go to the "Ask the Experts" page, and select "taxes" as the topic.

Bankrate.com's corrections policy -- Posted: May 13, 2005
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