Long used by discerning real estate investors, 1031 exchange is growing as an important tool for mainstream real estate consumers. 1031 exchanges are permitted under Section 1031 of the United States Internal Revenue Code. The code allows investors to defer capital gains tax on like-property exchanges. You should always consult a qualified attorney or tax advisor to determine whether or how a 1031 exchange should be used.
-Alike exchanges are tax-deferred, not tax-free investments.
-Like-kind is defined as real property also known as real estate. Properties that qualify are described in code 1031. Some of the types that are excluded are; property held principally for sale, inventories, stock, bonds or debentures, securities, interests in partnerships, and trust certificates. Private residence is not eligible.
-Properties must be used with proper purpose. Property given up and replacement property must be held for use in trade, business or as an investment.
-Properties handed over must be exchanged and not sold for cash.
-The majority of 1031 exchanges are facilitated by Qualified Intermediaries who assist taxpayers in meeting the IRS requirements of Section 1031.
-The value of the replacement item must be equal to or greater than the value of the item removed.
-Equity in the replacement property must be equal to or greater than the equity in the property disposed of.
-The debt for the replacement property must be equal to or greater than the debt for the property surrendered.
-All net proceeds from the sale of the property disposed of must be used to acquire a replacement property.
-A 1031 exchange ends when the taxpayer has control of the proceeds from the property disposed of.
-Qualified Intermediaries are considered a safe harbor by the IRS. Safe harbor holds all proceeds from abandoned property until needed for replacement property. Safe harbor or QI guarantees that funds will not reach taxpayers.
-Titles held on 1031 exchanges by taxpayers and not Qualified Intermediaries. However, the taxpayer transferred his interest in the contract to buy and sell property to QI.
-There is a strict time line for the replacement of the property that is released. A taxpayer must identify within 45 days of the date a property is released from a potential replacement property. The exchange must be completed within 180 days of the transfer of the relinquished property or the taxpayer’s federal tax return due date for the year in which the relinquished property was transferred, whichever comes first. Extensions are provided in some cases, consult QI for more details.
This is an overview of the 1031 exchange. There are many additional definitions and sections to the code. It is recommended that you consult a Qualified Intermediary and an attorney for the necessary information to determine whether a 1031 Exchange is right for you.