When you change your home from your primary residence into a rental property, your home is deemed to be sold at its fair market value at the date of the change. The capital gain is equal to the excess of the fair market value of your home at the date of the conversion over the original price you paid for your home.
For example, assume that you purchased your home in 1995 for $200,000. Further assume that on June 15, 2013 your home is worth $500,000 according to your local real estate. In this example, you decided to convert your home into a rental property on June 15. In this case, the capital gain will be $300,000, which is subject to capital gains tax.
Luckily, you can take advantage of the principal residence exemption, that will generally eliminate your capital gain on the sale. This exemption is available for all years that you lived in your home.
Note that the fair market value of your home on the date of the conversion will become the new cost of the rental property and this amount will be used to calculate your capital gains when you sell the property in the future.
