CONSIDERING A 1031 TAX-DEFERRED EXCHANGE?

For those of you that are considering selling your property that has heretofore been an investment property, you may wish to do a tax-deferred exchange under section 1031 of the Internal Revenue Code.  The procedures that are required to qualify for 1031 exchange treatment are somewhat complex.  Please note that all of the following regulations must be followed exactly, and there are no grace periods or other leeway that is given by the Internal Revenue Service in connection with 1031 Exchange.  Of course, before finalizing any transaction, be sure to consult with your individual tax advisor.

Initially, communicate to the real estate and escrow companies that are handling the closing of the sale property that you are going to participate in a tax-free exchange.  The closing statements on the sale must indicate that boldly.  When the sale of the property occurs, the money must be placed with an accommodator, and the accommodator will hold onto the money until you have located your replacement property. 

Here are the rules for locating a replacement property:  you have 45 days from the close of the sale of the land to identify a replacement property.  During that time you should be searching high and low for potential properties.  It is acceptable to locate multiple properties and merely to buy any one, or more than one, of them.  Essentially, a taxpayer may identify up to three replacement properties OR may identify any number of replacement properties, if their aggregate value does not exceed 200% of the aggregate value of all relinquished property.  For example, if you have $2,000,000 to spend on a property, you could locate various properties totaling up to $4,000,000, however, you only need to close escrow on a property or properties costing at least as much as the one you are relinquishing in order to avoid the capital gains tax on the sale of your property.  If at the end of 45 days you have not located a suitable property, you would simply recognize the capital gain on your tax return and pay the tax.

Besides having 45 days to locate the property, you also have a 180 day deadline to close on the replacement property and take title.  For purposes of closing, this means that you must properly have a recorded ownership of your new property and close escrow within 180 days of the close of the sale of the relinquished property.

Please be advised that this 180 days is not always six months.  Some months have 31 days.  You must carefully count on the calendar 180 days, because just for example, if you close on May 1 it does not mean that you have until November 1 to close on the replacement property.  Again, if you have not closed escrow on a replacement property by the end of the 180th day, provided you were successful in identifying the replacement property by the end of the 45th day, then you would simply pay the tax.

You will note above that I indicated you are selling an investment property.  Please understand that 1031 Exchanges are only available for business property, not personal residences.  Therefore, if you are going to purchase a personal residence with this money, that would not qualify as a 1031 Exchange.  There are specific rules as to what constitutes like-kind property, and we would be pleased to discuss these rules with you.