#1031 exchange real estate
How to Do 1031 Exchanges
By Elizabeth Weintraub. Home Buying/Selling Expert
Elizabeth Weintraub has an extensive background in real estate spanning more than 30 years, including experience in related industries such as title and escrow. She is a full-time broker-associate at Lyon Real Estate’s midtown Sacramento office and is recognized as a top producer. She is also a Life Member of the Master’s Club, an honor bestowed by the Sacramento Board of REALTORS , and ranks in the top 1% of all the agents at Lyon Real Estate.
CA BRE License #00697006
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1031 Exchanges Defer Taxes
The 1031 Exchange has been cited as the most powerful wealth building tool still available to taxpayers. It has been a major part of the success strategy of countless financial wizards and real estate gurus. Taking its name from Section 1031 of the Internal Revenue Code, a tax-deferred exchange allows a taxpayer to sell income, investment or business property and replace it with a like-kind property.
Capital gains on the sale of this property are deferred or postponed as long as the IRS rules are meticulously followed.
This is a wise tax and investment strategy as well as an estate planning tool. In theory, an investor could continue deferring capital gains on investment property until death. potentially avoiding them all together.
1984 Legislation Changed Some Aspects of 1031 Exchanges
In the early days of like-kind exchanges , the term was taken quite literally and often posed difficulties. For instance, if you owned a three-story brick apartment building that you wanted to sell through a 1031 exchange, you would have to find another three-story brick apartment building whose owner wanted to swap.
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Then the two of you would meet and the exchange would take place.
In the past, there were no time constraints on the exchange. The IRS demanded stricter controls on the process, which resulted in Congress passing in 1984 Section 1031 (a). This legislation limited deferred exchanges, further defined like-kind property and established a time table for completing the exchange.
Qualifying for a 1031 Exchange
Real estate property held for business use or investment qualifies for a 1031 Exchange. A personal residence does not qualify and, generally, a fix-and-flip property also doesn t qualify because it fits in the category of property being held for sale. Vacation or second homes. which are not held as rentals do not qualify for 1031 treatment; however, there is a usage test under Paragraph 280 of the tax code that may apply to those properties. A tax expert should be consulted in this case.
Land, which is under development, and property purchased for resale do not qualify for tax-deferred treatment. Stocks, bonds, notes, inventory property, and a beneficial interest in a partnership are not considered like-kind property for exchange purposes.
To qualify as a 1031 exchange today, the transaction must take the form of an exchange rather than just a sale of one property with the subsequent purchase of another. First, the property being sold and the new replacement property must both be held for investment purposes or for productive use in a trade or a business. They must be like-kind properties.
The following types of real estate swaps fit the requirement for a qualified exchange of like-kind property:
- An office in exchange for a shopping center
Today, you could exchange that brick apartment building for raw land, a warehouse, or a small office building. However, there are strict time constraints which must be met or the 1031 Exchange will not be allowed and tax consequences will be imposed.
At the time of writing, Elizabeth Weintraub, DRE # 00697006, is a Broker-Associate at Lyon Real Estate in Sacramento, California.