Internal Revenue Code (IRC) Section 1031 exchanges allow investors to sell property and re-invest the proceeds in another like-kind property without having to pay taxes that would otherwise be owed on recognized gain from sale. The payment of such capital gains tax is deferred, representing only a potential tax which is not owed unless the replacement property is sold in a subsequent taxable transaction and proceeds are taken as cash. These exchanges can offer significant tax advantages to the real estate buyers. Please refer to our 1031 exchange guide in recourses section.

Identification Period:
Within 45 days of selling the relinquished property you must identify suitable replacement properties. 1031 Rules 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.

The property intended for sale or purchase must both be held for productive use in either trade, business or for investment purposes. It may be noted that both these properties must be like-kind. It is mandatory that proceeds from this sale must go through a Qualified Intermediary (QI) who exercises complete control of the funds and make them available within guidelines of exchange rules, else all these proceeds will become taxable. Cash proceeds from the original sale must be re-invested in the replacement property. Any cash proceeds that retained will be taxable. The replacement property must acquire equal or greater level of debt than the relinquished property or the buyer may have to pay taxes on the amount of decrease or have to put in additional cash funds to offset the lower level of debt in the replacement property.

3-Property Rule
Under this rule, upto three (3) properties may be identified and acquired as possible replacements for the relinquished property. At least 95% of exchanges use this rule.

200% Rule
Under this rule, if more than three (3) properties are identified their aggregate value can not exceed 200% of the value of the relinquished property.

95% Exemption
Under this rule, any number of properties can be identified as possible replacements for the relinquished property, as long as at least 95% of the aggregate values of all properties identified are acquired.

1031 exchange program lends itself well to a sophisticated investor and opportunities relating to its use are endless, the biggest being cash flow.

• Cash Flow
Upon sale of the relinquished property, rather than paying taxes the investor has the same money available for investment and the payable taxes are delayed up until the point when the investor cashes out. In effect, an investor receives an interest free loan from the Federal Government, which otherwise would go as taxes when a property is relinquished.

• Leverage
With funds available which otherwise would go as taxes, the investor can use to purchase and leverage until the investment is cashed out.

• Portfolio Management
An investor can change the property type as personal preferences change over time.

o Management Relief: An investor may sell off a property which requires regular day to day management and acquire property that do not require active involvement.
o Consolidation: Investor can sell small properties and purchase large one.
o Diversification: An investor can expand the type or number of properties and diversify across states and markets to balance the portfolio.
o Estate Planning: Investors can continue to replace properties and pass down the estate as a tax free estate.
o Depreciation: Investor can exchange a non-depreciable property such as land and acquire one which can be depreciated.

Both the relinquished property and replacement property must be held for productive use in trade or for investment. Taxpayer's primary residence does not qualify for this purpose. All the qualifying properties must be in the United States of America. You need a Qualified Intermediary (QI) to facilitate the whole exchange. QI can not be your friend, relative, attorney, or accountant. The relinquished property must be exchanged for other property, rather than sold for cash using the proceeds to buy the replacement property. The value of the replacement property must be equal to or greater than the relinquished property. It also requires the time limit for the exchange. The whole process should be completed within 180 days.
If you have a specific situation or question, call one of our account executives.