Much of the below you already understand. I'm just putting it into words for the benefit of other readers, as well as to confirm we're both on the same page. Also, at best I am "vaguely" familiar with 1031 exchanges. I just don't have the experience or knowledge of 1031's to be any kind of authority on it, though I do know "the basics."
Your cost basis is $50K. Period. Your parents did the 1031 exchange for the primary purpose of deferring paying tax on the $200K gain. So if they gift the property to you, they gift *EVERYTHING* including all prior depreciation as well as the deferred gain. So if they're gifting it to you, they are also gifting the original $50K cost basis, all prior year depreciation they've already taken, as well as the $200K they have not paid taxes on yet (but you will pay taxes on when/if you sell the property in the future.)
Now if the original purchase date was 1980 then depending on the date of the 1031 exchange, more than likely the property is already fully depreciated. Doesn't matter. You still have to "take" all that depreciation when you receive the property and *YOU* will pay taxes on that deprecation *no* *matter* *what*.
if I turn a gift rental into my primary residence and live in for 2 years. Can i get the 250K exemption and not pay any tax on difference between 50K original and 300K sale (future estimate)?
Yes. If married, it would be best for it to be gifted to both you and your spouse. Then if you both live in it for at least 2 of the last 5 years you own it, you will each qualify for a $250K capital gains exclusion for a total of $500K
I also understand that a 1031 exchange requires you to hold property 5 years and rent for 2, but with a gift of it, does that rule go out the window?
That rule doesn't apply to you. The required minimum holding period of the replacement property after the exchange is 2 years, and that requirement is on your parents since they did the exchange. If they gifted it to you before meeting that requirement, then the difference in the original cost basis and the exchange value cost basis is taxable income to them - not you. It's taxable to your parents in the tax year the gifting was done. In such a case that increases the cost basis they gift to you to the exchange value declared at the time they did the 1031 exchange.
The requirements on you are that the property must be your "primary" residence for at least two of the last five years you own it. So at a minimum, you would have to own it at least two years, and it would have to be your primary residence for those two years. Understand that many misinterpret the requirement thinking they have to own it for 5 years. They do not. If you only own it for say, three years and it was your primary residence for "two of the last five years", then it qualifies for the exclusion. The fact you only owned it for three years is irrelevant. You still meet the requirement.
Keep in mind also, that you must not have taken the exclusion on another property within the previous 2 years.
