To qualify for a 1031 exchange, you must own the property after the rehab/renovation for productive use in a trade or business or for investment (e.g., the business of renting it out). There is no defined time-period for how long you must own the property for investment purposes, but industry professionals advise that 2 years is a safe bet. If an unsolicited offer is received on the property before that 2 years is up, and acceptance makes economical sense, then the possibility of a 1031 exchange should not be ruled out.
The Exchanger’s “principal intent” to owning the property is critical. If the property was acquired with the primary intent to rehab and resell (i.e., flipping), then the property is considered business inventory, which is ineligible for a 1031 exchange. The profits from this sale are taxed as either ordinary income or long-term capital gains income.
In the event of an IRS audit, many factors will be considered, such as why the property was originally bought, what improvements were made, the length of ownership, and the Exchanger’s ordinary business actions (i.e., are they consistent with real estate investing or selling flipped houses?). Itemizing the property on Schedule E, including rental revenues, expenses, and depreciation, is a great way to prove a that the type of ownership is eligible for a 1031 exchange.