How to Evict a Rental Property

It’s relatively straightforward to get out of investing in stocks, bonds, or mutual funds. You go to your computer, click a few, and voila, you’re out. Depending on the type of account, you may have tax consequences. In a tax-free account like a Roth, HSA, or 529, you probably won’t have one. You should be a little smarter in a taxable account, where you can hold the investment for at least a year to pay taxes at lower rates of long-term capital gains, donate it to charity to avoid capital gains tax entirely (and maybe get a charitable donation deduction if you claim), or just die and pass it on to your heirs tax-free.

Investing in individual properties is a bit more complicated.

#1 Home You Live In

Getting out of your home is more straightforward than an investment property. You can sell the property and move on to the next one. You’ll have a few selling costs, including broker commissions, maintenance, and vacancies (while you’re paying off the loan but not living there), which are negligible. I’ve found that 10% of the property’s value is a pretty good estimate of selling costs, but it can be done for less if you’re willing to sell yourself or if you can avoid sitting empty-handed.

There can be tax consequences as well. Until 1997, under Section 1034, you could transfer the equity in your home tax-free to another home of equal or greater value. That has since been repealed and replaced by Section 121, which basically allows you to exclude up to $250,000 ($500,000 for married couples) in capital gains from the sale of your principal residence as long as you’ve lived there for two of the last five years. This removes the tax consequences of home sales for most real estate sales. Obviously, this provision of the tax code heavily discriminates against those who live in expensive housing markets such as the Bay Area and Manhattan, as well as those who have lived in their homes for a long time.

#2 The 1031 Exchange

Investment property is not eligible for the $250,000 deduction, unfortunately. Section 1031, however, allows you to exchange the equity of your investment for another property while deferring capital gains (and depreciation) taxes due. This works well until you want to get out of real estate investing altogether. So, what are your options?

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#3 Pay the Tax Bill

Option number 1 is to simply pay capital gains and depreciation recapture taxes. If you bought a property for $100,000, depreciated it over 14 years to $50,000, and sold it for $200,000, you will owe depreciation recapture taxes (25%) on $50,000 and long-term capital gains taxes (0% -20% + 3.8% PPAC tax) $. That would come to $12,500 + $23,800 = $36,300. That’s enough to make any investor stop and wonder how to avoid it.

#4 Death

Option No. 2 death. If you buy an investment property worth $100,000, and after 50 years, that property is worth $1 million on your deathbed, you have two options. You can sell it today and pay 25% of $100,000 (since it’s now fully depreciated) and 23.8% of $900,000, or you can leave it to your heirs, who sell it the day after you die and owe no capital gains tax—although your estate may owe more than $3 million in tax if it’s more than $3 million. [2026 — visit our annual numbers page to get the most up-to-date figures].

The property increases in basis when you die, so it is basically as if they bought it at its value on the day of your death. That would be ~$240,000 more for them.

#5 Stay In It

What do you say? You don’t want to die or pay taxes. Fortunately, you have a few more options. The best alternative may be to stay local. If it becomes your primary residence, you’re also eligible for a tax deduction of up to $250,000 ($500,000 for married couples) for depreciation and capital gains taxes. You must own the property for at least five years and live in it for at least two years to qualify under Section 121.

The obvious problem here is that most investment property owners don’t actually want to live in the type of property they were planning to rent. Who wants to move from a 3,000 square foot house to a two bedroom apartment for five years just to save $30,000 in taxes? Another option exists. You can do a 1031 exchange from an investment property you don’t want to live in to an investment property you want to live in. Then rent it out for a while before moving in with your family. How long should you rent it for? The IRS is not specific. The only requirement is that you intend to rent it out and you can prove it in the audit. I would imagine that the lease year would be a lot, but it might be wise to consult with an attorney and/or accountant familiar with case law if you want to shorten this period.

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#6 Work On It (Do You Really Want to Invest in Real Estate?)

Another option is to convert an investment property into a rental property. You avoid the hassles of managing tenants and save on rent, but you don’t owe any capital gains taxes on the transaction. Depending on why you want to get out of real estate investing, you may also be happy to switch to a property that requires less management time, effort, and expense—such as a “triple net” commercial property.

#7 Give

Another way to avoid those capital gains and depreciation recapture taxes is to give the property to the poor. A charity can sell it tax-free, and you may get a deduction for part of the property’s total value. Let’s say a fully depreciated, paid-off property is worth $200,000. You get a $200,000 write-off (potentially saving you up to $100,000 in tax depending on your marginal tax rate), the charity gets $200,000 (minus operating expenses), and the IRS doesn’t get squat.

Although you don’t have to pay taxes, you lose property. Paying $200,000 to save $50,000 is never a smart business move. If you’re not feeling so generous, you can create a Charitable Remainder Trust. That means you give the property to charity, and it establishes your trust for a certain number of years—like 15-20—or until the death of you, your spouse, or all of your grandchildren if you wish. The charity sells the property, funds the trust with a fixed investment, and uses it to pay you interest for 15 years. Anything left over is a donation.

It’s like buying an annuity (although the interest rate is very low, but by law at least 5%). And you cannot deduct the full amount of the donation, only the current value of the last (remaining) donation, which must be at least 10% of the amount at the time of the donation. Why do charities do this? Not all charities will, but those that get 10%+ in 15-20 years are better than nothing now. Many will put limits on trust as well, mainly because it shouldn’t be difficult if they have to wait a long time to get your money.

The Worst Way to Get Out of a Real Estate Investment

Given other options, simply selling and paying taxes may not be the worst way to get out of an investment (especially if you’ve lost on it). But if you do this repeatedly, it shows a lack of planning on your part. If you are going to be a real estate investor, do it long term, switching from one place to another as needed. Then, you have to deal with the costs and hassles of getting out of real estate once and for all.

Have you ever needed to get out of real estate investing? How did you choose to come out? Can you do something different?

[This updated post was originally published in 2013.]