Overview of 1031 Real Estate Exchanges
Section (§) 1031 is the IRS code regarding real estate that allows capital gains taxes to be deferred on a sale by moving the equity and debt of the property being sold to a new property of equal or greater value.
The current holdings can be commercial or personal real estate held for investment.
The capital gains taxes can be deferred indefinitely.
The exchanges can be done in a number of ways, in accordance with tax law:
Simultaneous Exchange – the current property is sold and immediately replaced with the new holding.
Delayed Exchange – more common, the investor sells the current property first, using the proceeds to purchase a new “in-kind” property.
Build-to-Suit Exchange – occurs when the investor wishes to make improvements or repairs to the new property, but can first sell the current property (so that cash flow issues are again alleviated).
Reverse Build-to-Suit Exchange – the opposite situation, wherein a new property is acquired before selling the old one.
Requirements for favorable tax treatment of delayed exchanges:
The seller must NOT directly receive funds from the sale of his relinquished property.
Properties must be held for investment or used in a business.
“Like-kind” properties include developed or undeveloped real estate (but need not be identical in type). Properties that do not qualify include stocks and bonds, partnerships, and a variety of other investment vehicles.
The IRS requires an investor to identify the replacement property(s) within 45 days from closing on the sale of a relinquished property, and the new property must be acquired within 180 days of this original sale.
The IRS allows an investor to use a “Qualified Intermediary” (QI) to affect the exchange, serving in effect as an escrow agent that performs the exchange within the 180-day closing period.
IRS code provides appropriate guidance on the methods for satisfying these rules.
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This information is not intended to be a substitute for specific tax, legal or investment planning advice. We suggest you discuss your specific tax issues with a qualified tax advisor.