Allows you to buy, sell and get cash out of real estate without owing a penny in taxes, no matter how big your gain.
Whenever you sell business or investment property and you have a gain, you generally have to pay tax on the gain at the time of sale. IRC Section 1031 provides an exception and allows you to defer paying the tax on the gain if you reinvest the proceeds in similar property as part of a qualifying like-kind exchange.
In order to defer 100% of your capital gains tax liability, 2 requirements must be met. First, all the cash generated from the sale of the relinquished property (the property being sold) must be reinvested into the replacement property (the new property being acquired) AND secondly, the value of the replacement propert(ies) must be equal or greater in value to the relinquished property. These requirements must be met if you want to defer ALL your capital gains taxes. It is still possible to trade down and pay some capital gains taxes (which can still be better than paying ALL the tax).
- Property Qualifications. Any type of real estate can be exchanged for any other type of real estate and all the properties involved in an exchange must be held for investment or business purposes.
- Timeline. There is a maximum of 180 days to complete an exchange. The countdown begins on the close of escrow of the relinquished property. The purchase of replacement property must be completed – that is closed and recorded before midnight of the 180th day.
- Identification. Identification of all potential replacement properties is required on or before day 45 of the exchange. Identification must be in writing and signed, and the description of the properties must be unambiguous (that generally means a property address or its legal description). The property identified does not have to be under contract, and you do not have to acquire everything that you identify. However, you are NOT allowed to acquire anything other than the propert(ies) that you identified.
- Qualified Intermediary (QI). You cannot have actual or constructive receipt of any money – if you touch the money (even if it's only for a few minutes or hours), you'll have to pay the taxes. A QI is used to hold your funds, provide written instructions to closing officers, prepare the exchange agreement and other exchange documents and insulate you from any "constructive receipt" issues. The IRS does not permit your accountant, attorney or any type of agent to be your QI.
- Types of Exchanges. Investors have the ability to structure 1031 exchanges in several ways.
Personal Property Exchange: Exchanges are not limited to real property. Personl property can also be exchanged for other personal property of a like-kind or like-class.
- Contract Verbiage. If you are planning on completing a 1031 exchange, you can add the following verbiage to your offers and purchase contracts:
The information provided is meant for general informational purposes only and it is not to be construed as finance, tax, or legal advice. Please note that individual situations can vary and therefore, please consult your attorney, tax advisor or qualified intermediary for specific advice and counsel.