1031 Tax Exchange - Upgrade Your Investment Property With An Interest Free Loan
A 1031 Tax Exchange is a way to defer paying capital gains tax on investment properties. If you really think about it… it’s a bit like an “interest free loan”. The IRS is allowing you to keep the money you would otherwise pay in capital gains tax now - so that you can reinvest that money into a new investment property (or properties). The amount of tax to be paid is “deferred” until later. This tax amount can even be “reset” to the new current value when the owner passes away, the heirs taxable value can start over at the current value and the past gain wiped out.
1031 Exchanged defined: The Internal Revenue Code provides that a taxpayer may
sell property and defer payment of any capital gains tax if that taxpayer uses the
proceeds to acquire “like kind” replacement property.
Now that I have your interest… I want to make sure that everyone knows that this is a complicated process that will involve additional professional advisors. As your Realtor, as always, I will help you with the selling and buying of the properties. The 1031 Tax Exchange is a complicated process, but I will work with you and carefully help you navigate successful transactions. You should contact your CPA & a Qualified Exchange Intermediary (QI) to discuss the process and specifics or your situation before you begin the process.
Here are some basics:
Your intention to perform a 1031 tax exchange must be in writing as a part of the Purchase & Sale Agreement. The taxpayer must enter into an Exchange Agreement on or before the date of transfer of the relinquished property.
Property being sold and property being acquired must both be held for investment purposes. Primary residences cannot be exchanged under the 1031
Primary residences have a capital gains tax exclusion of $250,000 for a single person and $500,000 for a married couple filing jointly.
The taxpayer/exchanger must use the services of a “Qualified Intermediary” (QI) because you cannot actually or constructively receive proceeds from the sale (because that would trigger a taxable event). You may not have access to any of the exchange proceeds during the exchange period.
The taxpayer/exchanger must identify - in writing - the replacement property (or properties if purchasing more than one) within 45 days after closing and close on the purchase(s) within 180 days of the closing. (There are very specific rules for the identification and limiting the number of properties you may identify. Be sure to discuss all of this with you QI before beginning the process so they can guide you.) It’s advisable to identify more than one replacement property just in case.
The taxpayer must complete the acquisition of one or more of the “identified properties” within 180 days from the sale of RQ (Relinquished Property you are selling).
The replacement property (or properties) must be “like kind” (similar in type) to the RQ (property being sold).
You must intend to “hold” the investment property. For example a “flip” property would not qualify. There is no specific deadline for how long the new investment property is held. (Vacation/second homes, personal residences, and interests in partnerships/REITs or LLCs also are excluded from 1031 tax deferment.)
Please note their are “holding rules” for related parties. Contact a QI for specifics about a 2 year holding period if you are related to a party in any of the transactions - the sale or the purchase(s). If the parties are not related there is no magic number for how long the property must be held.
You can also find more info on the website for Old Republic Exchange at www.orexco1031.com & they have recorded some very brief informative YouTube videos at https://www.youtube.com/playlist?list=PL6hFtAMBhI3MxX46B71ggsQbH8AXVC_xK (click “play all”). Here is a link to their brochure: https://www.oldrepublicexchange.com/Downloads/ORE-GenInfo-Booklet-090418-Web.pdf. There are lots of companies who do this work. Be sure to do your own research to determine which company you would like to use.
When considering using the 1031 tax exchange process to defer Capital Gains tax. Note that “gain” is not necessarily “profit”. Ask your CPA or tax advisor to help you determine your gain. Capital Gains tax is usually between 20-35% (of the profit). Instead of paying that tax when selling an investment property - the IRS 1031 tax code allows a process to defer paying the tax, thus allowing more money for the purchase of a different like-kind investment property (or properties).
This is just an introduction to this information… contact me anytime for more information!
I’m always here to help! Thank you,
Jennifer Suemnicht - Jen's Realty - RE/MAX Metro Realty, Inc.