Our Services Section 1031 Exchange Q&A
The exchange process can be very complicated, requiring intimate understanding of the tax code and related law. These questions cover only the most common questions raised by our clients, and do not cover all conditions, restrictions and stipulations. For more complete personalized assistance, call The Exchange Connection, or contact us via email. Please note that if it appears your transaction does not qualify, we may be able to assist you in restructuring the transaction into one that will qualify.
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A: NO. Although you may certainly do a direct trade with someone, finding someone with property you want that is willing to trade with you is extremely rare. Most exchanges resemble a traditional property sale and purchase transaction. The primary difference between a traditional sale and re-purchase of property is in how the money is transferred, how the transaction is documented, and how the transaction complies with the governing regulations.
A: With reference to real estate the term "like-kind" simply means that real property must be exchanged for real property. For example, a rental home may be exchanged for an apartment complex, a shopping center for an orchard or a ranch for a medical center. Keep in mind however, that no matter what type of property it is, it must be used as a business or income producing asset or held for investment to qualify. If you are not sure if your asset qualifies give us a call, there may be ways to structure the transaction to make it qualify.
A: The advantage of doing an exchange is that you can shelter your gain from taxation. If you have a $100,000.00 gain on the sale of your property you can save $25,000 in federal tax and another $4,000.00 to $10,000.00 in state income taxes (depending on your state rate) simply by purchasing a qualified replacement property. If you start the process of an exchange and for any reason can't find a suitable replacement property, you simply cancel the exchange and report the transaction as a sale.
A: There are lots of reasons that people sell their investment property. In most cases people are wanting to use their equity to buy larger or better quality property. In some cases people want to consolidate several smaller properties into one large one for easier management. Other times people want to dispose on a large property and invest in a few smaller ones to diversify their portfolio. Changing geographic locations is also a common reason. It is hard to manage your rental houses if you move a thousand miles away.
A: Yes. You can diversify your investments from a single property to two or more Replacement properties. For example, you can exchange a farm for a medical building and an apartment building and a vacation condo that you rent out. You can also consolidate your smaller properties into a single, more manageable property. For example, you can exchange several single family rental properties into one larger apartment building. This consolidation may allow you to use on site management and reduce the burdens of being a landlord.
A: Yes and No. You can exchange your 100% interest in a property for a fractional interest (e.g. 50%) of another property provided you do not create a partnership. You may also exchange a tenancy in common interest for an undivided interest. For example reversing the example above by selling your half interest in one property and exchanging it for a property you own by yourself. This is very common with property inherited by a group of siblings. Structuring can be a bit complex but we have been doing it since 1990. The solution or the problem can change with small changes in the facts of your particular situation. Call one of our exchange experts to discuss the details of your particular fact pattern.
A: You can retain some of the cash but you will be taxed on the full amount that you keep. This is called "Taxable Boot" and there are complex regulations on how and when you may receive the funds. If you wish to complete an exchange but keep some of the cash, you need to consult a knowledgeable and experienced qualified intermediary. The qualified intermediary must create the proper documentation and disbursement controls to allow for the partial release of cash. If this is not done properly you will disqualify your entire exchange and be taxed on 100% of the gain!
A: No. Most exchanges today are "Delayed" Exchanges. Section 1031 gives the taxpayer 45 days to identify their replacement property and 180 days from the transfer of the Relinquished property to acquire the Replacement Property.
A: We can structure a "Reverse Exchange" which will qualify for 1031 exchange treatment. This involves a complex and specific exchange process that must be performed by a knowledgeable and experienced qualified intermediary.
A: Yes. For federal tax purposes you can exchange across state lines without any problems and avoid the federal tax. However, each state has its own treatment of cross border transactions. For example, Oregon recognizes 1031 exchanges (no tax due) of Oregon property for property in another state, provided, you are an Oregon resident. However, if you move out of Oregon the tax becomes due. If you are not an Oregon resident but own property in Oregon being exchanged for property in another state, you must pay the Oregon tax. Tax treatment of cross border 1031 exchanges varies with each state and you need to review tax policy for the states in question as part of the decision making process.
A: No. Property located in the United States is not considered "like-kind" in relation to property located in a foreign country.
A: Section 1031 does not typically consider commonwealths like Puerto Rico and Guam as qualifying under the definition of "United States". The code only identifies states and the District of Columbia as falling under the geographic definition of the "United States". However, a precedent has been set where a Virgin Island property qualified. If you have property in a commonwealth, additional research as to the current state of the law must be done.
A: Yes. The tax law changes in 2018 limits 1031 to only allow exchanges of real property.
A: Yes. Exclusions include: Personal property, Stock in trade or property held primarily for sale (e.g. inventory); Securities or evidences of indebtedness or interest (e.g. stocks, bonds and promissory notes); Interests in a partnership; Certificates of trust or beneficial interest; Choses in action
A: The biggest disadvantage of doing a 1031 tax deferred exchange is the limited time frame in which you must complete the transaction. There is also a modest cost but typically given the tremendous tax saving opportunity most people find the advantage far outweighs the cost.
A: Absolutely! The success or failure of your exchange depends on the expertise and documentation prepared by the qualified intermediary. You need to know that no formal training is required nor any special testing, background check, or licenses are needed to be a qualified intermediary. Unless you know the reputation and qualifications of the qualified intermediary you hire, you could be getting "best guess" information from unqualified people using documents that were not drafted or reviewed by a qualified tax attorney. Most qualified intermediary companies do not review your transaction in any manner nor do they check to see if mistakes are being made in the escrow or lending portions of the transaction that could jeopardize its qualification as a section 1031 exchange. Having your exchange handled by an exchange clerk is like having surgery done by a medical assistant, you might get lucky. Section 1031 exchanges are a complex legal and tax based transaction that requires skill and expertise to be handled properly. At the Exchange Connection, we review every level of the documentation, from the purchase and sale agreements to the escrow instructions to the settlement statements to spot potential pitfalls and errors that could cause you problems in the future. We treat each exchange like the important and complex transaction that it is. We pay attention to detail and devote the professional attention that your transaction deserves. Our documents were drafted by a qualified tax and real estate attorney and CPA and are continuously refined to reflect the latest developments in the law.