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Rules for 1031 Exchange Into Hawaii Vacation Home

A high percentage of transactions in the second home and vacation rental market right now involve 1031 tax-deferred exchanges by the seller, buyer, or both. One important point to note at a time when more of our Hawaii vacation rental property owners seem to be spending longer periods here themselves, is that their intended usage can affect whether their property qualifies for tax deferral upon sale — or as a replacement property.

Golf course ocean view from Halii Kai 8D for sale

Halii Kai 8D has been typically rented 200–300 days per year and not used by the owner. An investment property!

Investment or Second Home?  The “14 Day” Qualification Rules for Vacation Property

For a second or vacation home to qualify as an investment eligible to be a 1031 exchange replacement property, it must meet the following criteria:

  • • It is owned by the taxpayer for at least 24 months immediately following the exchange (“qualifying use period”).
  • • Within the qualifying use period, in each of the two 12 month periods:
    1. the taxpayer rents the dwelling unit to another person at fair rental for 14 days or more; and
    2. the taxpayer’s personal use of the dwelling unit does not exceed the greater of 14 days or 10 percent of the number of days during the 12 month period that the dwelling unit was rented at fair rental.

Sunset at Canoe House at Mauna Lani Resort

Got that? If you want your resort vacation home to be an investment property rather than a second home, you need to rent (not to friends and family) for at least 14 days a year, and you need to spend no more than 14 days using it yourself, although if you rent heavily, say 200 days per year, you could spend 10% = 20 days in the home or condo yourself.

Long Term Rentals Work as Replacement Properties for your 1031 Exchange

The Kohala Coast market is tight: as I write this we have only six active condo listings at Waikoloa Beach Resort, three condos for sale at Mauna Lani Resort, and no condos available at Mauna Kea. If you have already sold your current investment property and are needing to nominate replacements, you might have to consider long-term rentals rather than a vacation home.

Kulalani Building 2

One of only three active condo listings at Mauna Lani Resort, Kulalani 201 has been a long-term rental.

Even a resort property can be used as a long-term rental rather than get a short-term vacation rental permit and deal with the hassle of bookings and cleanings. A long-term rental clearly qualifies as an investment property for your future 1031 exchange. And in that case, donʻt forget you can still vacation in Hawaii — just not at the investment property you own here!

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