exclusion of gain on residence converted to rental property and held in LLC taxed as partnership

Forum|Forum|3 years ago
March 20, 2023
2 replies
21 views

Client converted a personal residence to a rental & put it in a LLC that they but chose to be taxed as a partneship with IRS. The married couple are the only members. They have filed one ptr return. They thought the house would still qualify for the capital gain exclusion but I don't think so since it is owned by the partnership. Any ideas on a way this ownership would qualify for the gain exclusion? Thanks for your thoughts!!

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IRonMaN

Level 15

They officially fall under section SOL. Partnerships don't have primary residences so it wasn't a great tax planning move on their part.

Slava Ukraini!

rbynaker

Level 13

I don't do partnerships but if unwound quickly enough could they still meet the 2-out-of-5 year rules? I would think the time owned by the LLC would not count but maybe the time before would?

S

SBZAuthor

Level 3

What do you think about my reply to BobKamman?

They definitely meet the requirement.

BobKamman

Level 15

This 2000 letter ruling says the partnership is not a problem, since those taxpayers didn't rent it. So does that mean it is a problem for your taxpayers, because they did?

https://www.irs.gov/pub/irs-wd/0004022.pdf

I would argue substance over form. The substance is that the taxpayers are idiots who went to a seminar and were convinced by some promoter that LLC's are great protection (maybe from Covid and STD's?). They should qualify for Section 121 exclusion even if they are stupid. But I'm not sure how you would show that on a 1065.

S

SBZAuthor

Level 3

I am thinking that the problem is that they chose to have the LLC taxed as a partnership and that one partnership return has been filed. Without that, It would have been a single member LLC so a disregrded entity and not an issue. They converted their primary residence to a rental 12/01/20 and held it personally until the end of October, 2021 when they transferred it to the LLC. Maybe it would be worth trying to change it's classification from a partnership using form 8832 and hoping it would be accepted for late election relief under the circumstances. What do you think about that idea?

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