1031 Exchanges

1031 Exchanges

What is a 1031 Exchange?

A 1031 Exchange is a means of deferring capital gains taxes when selling investment property and purchasing like-kind investment property. Yes! Pay no tax when you sell your real estate with a 1031 Exchange. Any investor can qualify! Section 1031 of the IRS code lets you sell your property and buy a new property without paying any taxes. Generally, when you sell real estate, you have to pay tax on the gain from the sale of your property. This gain is caused either by the property appreciating over time or by taking depreciation deductions for tax purposes.

A Section 1031 Exchange, named for the Internal Revenue Code Section, offers you the major exception to imposition of this capital gains tax. With a 1031 Exchange, when you sell business or investment real estate and replace it with other business or investment real estate, you can defer the payment of the tax that is normally due on the sale.

If your objective is to use the proceeds from the sale of your property to buy more business or investment real estate, a 1031 Exchange can provide you with more funds for investment than can be achieved through the investment of after-tax proceeds from the sale of your current property.

A 1031 Exchange is not a tax loophole. It is a code section written by Congress specifically to allow anyone who meets its requirements to sell their property and defer paying tax on the gain.

What is “like-kind” property?

With real property, like-kind means investment property for investment property. You can exchange an apartment complex for vacant land. The replacement property does not have to be income producing, but it must be held for investment purposes. Personal property exchanges must be “similar-in-use.” 

What are the time limits?

From the close of escrow on your relinquished property, you have 45 daysto identify (with your accommodator) your replacement property and thereafter, 180 days OR the date the tax return is due (including extensions) for the tax year in which the Relinquished Property is transferred, whichever is earlier. These time periods run concurrently. In no event can these deadlines be extended. You have the right to request extensions for filing as usual, so long as the extension does not exceed 180 days from the close of escrow.

How do I Identify a replacement property?

You will need to submit, in writing, your selections of replacement properties. You can identify up to three properties (without regard to value) or as many properties you would like (as long as the aggregate value of all properties identified does not exceed 200% of your relinquished property). The 95% Exception: Automatically used if neither of the above rules apply. Simply stated, the exchanger must acquire 95% of what was identified! This certainly keeps people from identifying entire blocks of potential properties!

How many properties can I buy or sell in one exchange?

Buy as many as you can afford and can close within the same time period. Sell as many as you can provided they can all close within the time period set by the closing of the first sale.

Can my real estate agent act as a Qualified Intermediary?

Any agent of the exchanger’s is disqualified by the IRS to act as a Qualified Intermediary as well as any related party. If in doubt about whether or not someone is an agent or related party, if there is a relationship by contract or blood, there is probably a relationship that could disqualify the exchange. With Intermediary fees so reasonable, there is no need to risk the possible tax consequences.

6 Important Things To Know About 1031 Exchanges

You should keep it simple. Let the complicated part be the job of the Qualified Intermediary. After all, they are getting paid to handle the exchange. Let them earn their fee.

There are however, 6 things YOU need to know about 1031 Exchanges:

  1. In simple terms, the old property and the new property must be either bare land or rental property. If you meet this test, you can exchange any type of real estate for any other type of real estate.
  2. From the date of closing on the old property, you have 45 days to determine a list of property you want to buy.
  3. Also, from the date of closing, you have 180 days to close the purchase of one of the properties listed on your 45-day list.
  4. You cannot touch the money. By Law, the money is held by a “Qualified Intermediary” (sometimes also called an “Accommodator” or a “Facilitator”). You cannot leave the proceeds in escrow until the second property is acquired, nor can you have a friend, employee, broker or even your CPA or attorney hold the money for you.
  5. Whoever is the title holder of the old property has to remain the title holder of the new property.
  6. To avoid taxable gain, you must reinvest all your cash proceeds and buy a property of equal or greater value.