Cape Cod Real Estate by Coldwell Banker Atlantic Realty

1031 Exchange

The Best Kept Secret

If you have real property that will net you a gain upon sale (generally property that has been substantially depreciated for tax purposes and/or has appreciated in fair market value), then you are exactly the person who should consider a 1031 exchange.

What is a 1031 exchange?

Under Internal Revenue Code Section 1031, a real property owner can sell his property and then reinvest the proceeds in ownership of like-kind property and defer the capital gains taxes. To qualify as a like-kind exchange, property exchanges must be done in accordance with the rules set forth in the tax code and in the treasury regulations. The 1031 exchange can offer significant tax advantages to real estate buyers. Often overlooked, a 1031 exchange is considered one of the best-kept secrets.

What are the 1031 exchange rules?

1. The real property you sell and the real property you buy must both be held for productive use in a trade or business or for investment purposes and must be like-kind.

2. The proceeds from the sale must go through the hands of a qualified intermediary and not through your hands or the hands of one of your agents or else all the proceeds will become taxable.

3. All the cash proceeds from the original sale must be reinvested in the replacement property – any cash proceeds that you retain will be taxable.

4. The replacement property must be subject to an equal level or greater level of debt than the relinquished property or the buyer will either have to pay taxes on the amount of the decrease or have to put in additional cash funds to offset the lower level of debt in the replacement property

1031 Timeline

Identification Period: Within 45 days of selling the relinquished property you must identify suitable replacement properties. This 45 day rule is very strict and is not extended should the 45th day fall on a Saturday, Sunday, or legal holiday.

Exchange Period: The replacement property must be received by the taxpayer within the “exchange period,” which ends within the earlier of 180 days after the date on which the taxpayer transfers the property relinquished, or the due date for the taxpayer tax return for the taxable year in which the transfer of the relinquished property occurs. This 180-day rule is very strict and is not extended if the 180th day should happen to fall on a Saturday, Sunday or legal holiday.

Why should you consider a 1031 exchange?

Defer paying capital gains taxes.
A properly structured exchange can provide real estate buyers with the opportunity to defer all of their capital gains taxes. By exchanging, the buyer essentially receives an interest-free, no-term loan from the government.Leverage.
Relief from property management.
The lessee takes the responsibility to sublet and maintain the property allowing real estate buyers to avoid most of the day-to-day management headaches.
Upgrade or consolidate property.
Diversify.
Own multiple properties rather than just one.
Relocation to a new area.
Differences in regional growth or income potential.
Change property types among residential, commercial, retail, etc.

Last updated: August 6, 2007