Gain on sale

[Acownt4it]

I am hoping to decrease the gain on sale for a client. Not sure if I can apply the exception for principle residence. The facts are:
Client built a home in 2000.
From 2001-2003 1/3rd of the house was rented out while the client live in the other part of the house.
In October 2003, client purchased a new home and rented out the entire old house.
Client is selling the rental house for a gain of $130,000 for the house, $40,000 for the land and there is $14,000 depreciation recapture.
My question is, does the Section 121 exclusion still apply since they lived in the house for at least two of the last five years? The way I read it I can use it but I would like to get some confirmation.
As always, Thanks for you help.

[Bees Knees]

Section 121 gain applies to the 2/3rds of the house the taxpayers lived in for at least 2 out of the last 5 years. The other 1/3rd of the house was never used by the taxpayers as a principal residence, so no exclusion on that portion of the gain. Also, unrecaptured section 1250 gain is fully taxable, even on the portion of the house they used as a residence.

[Mark Goldberg]

One clarification and a point

From reading Bees response he and I assume that the 1/3 was a self contained unit with a separate entrance, kitchen and bath. If this is correct I agree with Bees. If this assumption is wrong and the renter was sharing the same space with the owner then I can come to a different conclusion.
If it was a self contained unit and the owner fixed up his 2/3 more than the 1/3, then I have seen some interpretations where you can put more of the gain on the 2/3.

[abby]

new rules

Don't the new rules say that if you can't separate the rental from the home (within the same dwelling unit) the taxpayer is treated as having used the entire home as a principal residence for purposes of the exclusion.

The only gain recognized is for the depreciation post 5/6/97in such a case.

Was the dwelling unit separate in this case?