1031 Exchange Process

Investment property owners need to review their portfolios regularly to identify new opportunities as the market changes. In many instances, owners may find they want to sell existing property in exchange for different real estate opportunities. In these cases, they should consider whether they want to take advantage of a 1031 tax-deferred exchange. 

This exchange practice allows investment property owners to sell their properties for like-kind properties and defer capital gains tax. If you’re interested in this type of opportunity, this article will provide a summary of the 1031 exchange, the rules that apply and the benefits and drawbacks of performing a 1031 exchange.

What are 1031 Exchanges?

A 1031 exchange is a type of tax-deferred exchange that comes from Section 1031 of the Internal Revenue Code (IRC) that allows real estate investors to defer capital gains taxes when selling one investment property for another. This tax-deferred exchange involves using the proceeds from the sale of the relinquished property to acquire another like-kind piece of real estate of equal or greater value.

By completing the exchange, the taxpayer can build wealth, save taxes normally due upon the sale, and dispose of investment assets to acquire new ones. To reap the benefits of this practice, investors must identify and close on the replacement property within a specific time limit.

The Internal Revenue Service (IRS) has established rules that limit the use of these properties for business, investment, and trade purposes only. For instance, a taxpayer wouldn’t be able to exchange their rental unit property for a personal vacation home. A 1031 exchange may also be referred to as a Starker exchange or used as a verb, such as saying, “We should 1031 that building for this one.”

With a 1031 exchange, investors can use the delayed method — selling their former property before acquiring the replacement — or they can swap them at the same time. This is known as a simultaneous tax-deferred exchange. In this process, the taxpayer closes on the relinquished property and the replacement property on the same day.

IMPORTANT STEPS

STEP 1 – INVOLVE QUALIFIED INTERMEDIARY

STEP -2 – IDENTIFY PROPERTY WITHIN 45 DAYS

STEP 3 – PURCHASE REPLACEMENT PROPERTY WITHIN 180 DAYS