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Category Archives: 1031 EXCHANGE

Do you know about the 95% Rule for 1031 exchanges?

If you’re considering a 1031 exchange, then understanding the rules of the game is not an option – it is required. The IRS is very strict about applying the rules it has set forth that govern these amazing tax-deferral transactions. No surprise there. But what does catch investors off guard is the nuances of time deadlines for these transactions. One of the most common pitfalls that I see in my work with clients on these type of real estate transactions? Missing the deadline to name possible replacement properties. You may know that you have 45 days from the date you sell your relinquished property to identify possible replacement property. But […]

What happens to the cash during a 1031 exchange?

In my work with 1031 exchanges (as both a qualified intermediary and a real estate professional), I often encounter investors who are delving into the world of deferred capital gains for the first time. They understand the basic concept of trading investment property to avoid taxes, but are a little fuzzy on the steps of the process. One of the biggest things any investor must know before beginning any 1031 exchange, is how the IRS treats the cash from the sale of the relinquished property. In order for the exchange to be valid, the very first hurdle is making sure the investor never has actual or constructive access to the […]

Six Myths About 1031 Exchanges – Part 3

If you’ve been thinking about a 1031 exchange, but are confused by the seemingly continuous flow of misinformation out there, struggle no more. We’ve compiled some of the most common myths surrounding these great tax deferral transactions here and here. Today we offer some final thoughts. Residential property can never be for personal use. FALSE! As long as an investor follows certain guidelines, properties like second homes or vacation homes can qualify for a 1031 exchange and be personally used by the investor. An investor must offer the property for rent at fair market rate and can then use the property him or herself for up to 14 days per […]

Six Myths About 1031 Exchanges – Part 2

So you want to do a 1031 exchange, but you’re not sure where to start. You’ve heard a lot of crazy things about this great tax-deferral strategy, so you’re just not sure. In a recent post, we’ve taken the guesswork out of 1031 exchanges by debunking some of the most common myths. Read on for a few more. A taxpayer cannot complete a 1031 exchange with a related party. FALSE! Related parties can buy or sell property in a valid 1031 exchange. When related parties (e.g., parents, spouses, children, siblings, etc.) exchange property, the related party is obligated to own the property for at least two years following the exchange […]

Six Myths About 1031 Exchanges – Part 1

Today it seems like everyone is doing a 1031 exchange. And why not? Deferring capital gains taxes on the sale of investment or business property can be very lucrative for an investor. They can take that money and reinvest it in bigger and better properties, and build their portfolio faster. Unfortunately, with this popularity comes a lot of misinformation. Read on for a few of the most common 1031 myths. All tax liability is deferred in a 1031 exchange. FALSE! Boot is an important concept to understand in 1031 exchanges. Boot is any cash not spent on the purchase of replacement property. Boot is fully taxable regardless of the investor’s […]

Recaptured Depreciation Matters In A 1031 Exchange

Section 1031 of the IRS Code permits investors to defer payment of tax on the gain from the sale of property held for productive use in business, trade or investment. This is true so long as the property is exchanged for a “like kind” asset (or assets). It’s a great tax-deferral strategy, but there is a significant tax liability that many investors don’t initially consider – recaptured depreciation. In any 1031 exchange, an investor must recapture all depreciation at 25%. Depending on how long you’ve owned your investment property, the depreciation recapture could be a bigger tax liability than the capital gains tax. As a professional who has provided qualified […]

Not Every 1031 Exchange Goes As Planned

A recent case came out of U.S. Tax Court that illustrates the dangers of structuring complex 1031 exchanges to avoid significant capital gains taxes. It also illustrates the reality that even the top tier accounting and law firms can make a misstep when it comes to advising on the more nuanced transactions. In the end, the plaintiffs, a power company, was forced to pay taxes and penalties related to $539 million in tax benefits it claimed from a disputed 1031 exchange transaction. The case is Exelon v. IRS and makes for an interesting read for anyone involved in 1031 exchanges.

What are the disadvantages of a 1031 exchange?

While a 1031 exchange can be a great tool to defer capital gains, it doesn’t come without at least one disadvantage. When you engage in a 1031 exchange, there is a reduced basis for depreciation on the replacement property. The tax basis of the replacement property is essentially the purchase price minus the deferred gain on the sale of the relinquished property. Thus, the replacement property includes a deferred gain that will be taxed in the future if/when the investor sells the property without conducting another exchange. By no means is the “disadvantage” a reason to say no to a 1031 exchange. But by understanding it, you can better prepare […]

“Equal Or More” Investments Are The Rule In 1031 Exchanges

So you want to do a 1031 exchange and defer capital gains taxes. Great. All you have to do is sell your old property and buy something new, right? Sort of. There are myriad rules surrounding legitimate 1031 exchanges, and the value of your replacement property is one of them. In order to defer 100% of your capital gains, the value of your replacement property must be equal to or greater than the property you sold. In determining the equal or up number, you must keep two important factors in mind. The first thing has to do with debt. The amount of money used to pay off debt (any mortgages, […]

Beware Hidden “Boot” Risks In A 1031 Exchange

One of the golden rules of 1031 exchanges is that if you receive any cash out of the transaction, it is considered “boot” and subject to capital gains taxes. Most investors understand this. But there is one element of “boot” that often catches investors off guard, and it has to do with mortgages and other debt. If you fail to consider outstanding loans during the 1031 transactions, you can find yourself facing unintended taxes on unexpected boot. How so? If you don’t receive cash back but do see your liability go down, the reduction in debt will be treated just like cash. Let’s say you had a mortgage of $1,000,000 […]