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Common 1031 Exchange Questions

After my 1031 Exchange, I'm going to have a taxable gain. When do I report this?

Can I 1031 Exchange for a replacement property with construction that isn't finished?

Does the 1031 exchange have to be included in the purchase agreement?

My Realtor told me I should avoid using a Qualified Intermediary for my 1031 Exchange. Please Explain?

Can I 1031 exchange property held for personal use for property held for productive use? Why not?

When does the 1031 exchange 180-day deadline begin?

The 1031 Exchange period begins at the time you sell your property and the proceeds are transferred into Safe Harbor with your 1031 Exchange Qualified Intermediary. From that time one the IRS rule says that you must close sale on ALL identified Replacement properties within 180 calendar days. There are no exceptions, extensions or explanations for missing this deadline. If all of your identified properties have not been purchased, the remaining 1031 Exchange proceeds will not qualified for Capital Gains Tax Deferment.

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In a 1031 Exchange, if I take back cash as boot, is this considered income?

In a 1031 Exchange, any cash taken back from your sales proceeds is considered boot. The IRS wants you to re-invest these proceeds in your replacement property but since you are taking control over these proceeds, you are expected to pay taxes on them as capital gains and/or regular income. So the answer to this questions, is YES, cash as boot IS considered taxable income.

Related Info: income, boot, cash, proceeds, taxable, capital


How do I find a 1031 Exchange qualified intermediary in New Jersey?

Taxpayers often then that they need to find a local Qualified Intermediary located in their own city or state. This is far from true. 1031 Exchange is a federal IRS action taken by tax payers to delay the Capital Gains tax owned on the sale of their investment or business property. You may 1031 Exchange with any Qualified Intermediary in all 50 states, including the US Virgin Islands. Realty Exchangers performs 1031 Exchange in New Jersey, you can contact them at 800-570-1031. Realty Exchangers also does 1031 Exchange in the following states, Alabama, Alaska, Arizona, Arkansas, California, Colorado, Connecticut, Delaware, Florida, Georgia, Hawaii, Idaho, Illinois, Indiana, Iowa, Kansas, Kentucky, Louisiana, Maine, Maryland, Massachusetts, Michigan, Minnesota, Mississippi, Missouri, Montana, Nebraska, Nevada, New Hampshire, New Mexico, New York, North Carolina, North Dakota, Ohio, Oklahoma, Oregon, Pennsylvania, Rhode Island, South Carolina, South Dakota, Tennessee, Texas, Utah, Vermont, Virginia, Washington, West Virginia, Wisconsin, Wyoming.

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The guy building my 1031 Exchange property wants to include his paving services as part of the exchange. Will that work?

Be very careful not to get caught in a 1031 exchange for services trap. The transfer of Relinquished Property won't qualify for §1031 treatment if it's transferred in exchange for services. This includes all production services. You will need to write up and itemize his services in a separate contract. Be sure to discuss the tax rate for those services with you CPA or tax advisor as there may be actionable tax items here.

Related Info: services, work, paving, include, wants, building, contract, itemize, discuss, production, advisor


Can I 1031 Exchange my Rental Unit and apply any of the proceeds to my personal residence?

No. There are a couple of issues here. In order to qualify for 1031 Exchange treatment there MUST BE AN EXCHANGE of properties. This won't happen since you are the owner of the rental property and the personal residence. Also, usage of the proceeds must for a like-kind property. A personal residence is not a like-kind property and real estate held for personal use does not quality for 1031 Exchange Treatment.

Related Info: personal, residence, proceeds, apply, unit, rental, like-kind, treatment, quality, usage


In a 1031 Exchange, exactly what property does NOT qualify?

In some cases, you may find that all or some of the property you want to sell fails to qualify for 1031 Exchange. Be sure to check out our 1031 Exchange Knowledge Base for more information about dealing with un-like property. Check out Topic 3 by clicking here.

Examples of un-like property which are excluded from nontaxable treatment are:

Property you hold for personal use such as your primary residence.
Stock in trade and property held primarily for sale such as inventories and real estate held by dealers.
Stocks, bonds, notes, or other securities or evidences of indebtedness such as accounts receivable.
Partnership interests.
Notes
Choses in action.
Certificates of trust or beneficial interest

It doesn’t matter if any of the excluded property items are related to real estate; they are always excluded from §1031 treatment. For example, a note secured by real property can never qualify.

Related Info: qualify, exactly, real, excluded, un-like, notes, treatment, check


What is a 1031 Exchange Starker Exchange?

A Starker Exchange IS a 1031 Exchange. The term Starker comes from a lawsuit case in 1979, Starker vs. U.S. (602 F.2d 1341), that a contract to exchange a property in the future is the same as a simultaneous exchange. It is this case where the delayed 1031 Exchange originated. In order to get 1031 Exchange treatment from the IRS, you need to identify the property as a 1031 Exchange before closing, identify the replacement property with 45 days of closing and acquire your replacement properties with 180 days of closing and you MUST use a Qualified Intermediary to facilitate your transaction.

Related Info: starker, closing, case, replacement, identify, treatment


Do you have any examples of a 3-cornered 1031 exchange?

Earlene T. Barker, 1980 74 TC 555 is a good example and road map to follow in structuring a three-cornered 1031 exchange through a fourth-party escrow holder. Under a series of interrelated contracts, fourth party (the accommodator) took title and received payments for all properties, then transferred title and cash among parties to carry out the exchange.

Under escrow agreements, successful closing of each transaction depended on successful closing of all others. This integrated agreement, and the fact that Barker had no option or right to take cash, guaranteed nonrecognition of gain under §1031.

In Joyce M. Allen, the taxpayers' attempted three-corner exchange did not qualify for nonrecognition of gain under §1031. The transaction was held to be a sale and a purchase. The two transactions were only related by the fact that proceeds from sale of one property were used to buy the other property. The court held the transfers of property were not steps in an integrated transaction and nothing in the records indicated the successful completion of either transaction was a condition of the other. If Allen's purchase escrow had failed, she would have ended up with the proceeds from the sale of her property.

Tax Case: In computing “boot” on three-cornered realty exchange, transferor's receipt of cash to satisfy mortgage on property she transferred was offset by larger mortgage on property she received in exchange. Fact that cash was paid into escrow and mortgage was paid off before transfer was completed didn't bar “netting” of liability discharged against liability assumed. In effect, transferor was merely conduit for funds.Comm. v. North Shore Bus Co., Inc., 32 AFTR 931, 143 F.sd 114 (sd. Cir., 1944) followed.

Related Info: 3-cornered, examples, cash, escrow, transaction, sale, mortgage, successful


When you do a 1031 Exchange, can you deduct your points and closing costs?

For a 1031 Exchange, points must be capitalized and written off straight-line over the life of the loan. If the property is Section 1225 investment land, the write off is treated as investment interest. If the property is Section 1231 business property such as rentals, the points are written off as interest expense on your rental property Schedule E.

All closing costs directly related to the sale or purchase of property such as commissions, title policy, escrow fees, and such, are treated this way:

On Sale of Business or Investment Property - Deducted from the sales price in figuring the gain or loss on the sale.

On Purchase of Business or Investment Property - Added to the basis of the property acquired.

Caution some closing costs on the sale of business property such as rentals. All expense and income items must be taken on Schedule E. Examples are rental deposits allocations, insurance and tax prorations, prepaid rent allocations and the like.

Since your question pointed at a 1031 exchange, I did not cover the treatment on sale or purchase of real estate held for personal use or dealer property since they do not qualify for 1031 treatment.

Related Info: costs, closing, points, deduct, sale, business, investment, purchase, rentals, expense


I sold a property on November 30, 2010 and entered into a 1031 exchange via an accomodator. My tax preparer filed my return on April 15, 2011 prior to my closing, but also filed for an extension. Now that my exchange has completed, can I file an amended return, or is my exchange invalidated? should he not have filed the return, and just the extension?

1031 Exchanges expire 180 days after you sell your property. The exception is when you taxes are due. Tax Time Trumps your 180 expiration ... unless you file for the extension. Since you filed for the extension, you should be able to get the full 180 days of your 1031 Exchange period, regardless of whether your taxes have been filed or not. The best best is to check with your CPA or Attorney as we obviously don't know your specific situation and there may be issues that we couldn't know.

Related Info: filed, return, extension, closing, completed, invalidated, taxes, attorney, check, period, specific


What is un-like 1031 Exchange exchange boot?

In a 1031 Exchange, sometimes among the qualified like-kind Real Estate that is being traded, other items are included with bargain. Items that are not like-kind are considered un-like which can include money, gold, silver, foreign currency, airplanes, motor homes, precious stones and real estate to be used as your personal residence.

All Money and unlike property received in the exchange is boot and is taxable. You can easily compute your boot this way:

Figure out the amount of money received plus the fair market value of unlike property received.

An example would be: You exchange real estate for other real estate plus you receive $10,000 cash and securities with a fair market value of $25,000. Total boot received by you is $35,000.

Related Info: boot, un-like, estate, real, money, market, fair


Can I 1031 Exchange into a home that has a lease with an option to buy?

One of the factors that disqualifies 1031 Exchange property is when it is held primarily for sale. Most people associate these properties as those held by dealers.

But be aware that "held primarily for sale" is not limited to strictly to dealers. Property was deemed held primarily for sale and not for investment where it was sold under a “prearranged plan” shortly after it was acquired in an exchange.

What this means is that property acquired in an exchange and leased with option to buy is not held for use in business or for investment which disqualifies it for 1031 Exchange.

Related Info: option, lease, home, primarily, sale, dealers, disqualifies, investment, acquired


I'm trying to 1031 Exchange a property that I converted into a vacation rental. Is listing it with a rental agency enough?

Yes - listing the property for rent with a licensed real estate broker at fair market value is treated by the IRS as a serious effort to rent the property. It must be a bona-fide listing and vacant during the time - in other words, you cannot occupy the property or use it as a vacation home. If you do, that time will not count as operating a rental property.

If you don’t list the property with a broker but hold it as a “rent-by-owner”, the property cannot qualify as a rental property until it is actually rented, no matter how much effort you make to rent it. It will be classified as property held for personal use and will not qualify for 1031 exchange treatment.

Related Info: rental, agency, listing, converted, vacation, rent, time, qualify, broker


Can I 1031 Exchange rental property and reinvest it into rental property without paying capital gains tax?

Yes. But in order for there to be a 1031 Exchange, you need to make certain that both properties are of "like-kind", meaning they qualify for 1031 Exchange. Failure to do so will collapse your 1031 Exchange and you will end up paying the capital gains tax.

Related Info: rental, gains, capital, paying, reinvest, collapse, failure, qualify


What does 1031 Exchange Incidental Property Mean?

When you are involved in a 1031 Exchange often you may end up exchanging other non-real estate property as well, such as furniture, appliances, computers, etc.

When it comes time to identify this property within the 45-day identification period, it should be noted that property which is incidental to Real Estate property, such as furniture, laundry machines, appliances, pumps, etc. is not treated as separate property from the real estate property if:

In standard commercial transactions the property is typically transferred together with the real estate property, and;
The aggregate market value of the incidental property does not exceed 15% of the market value of the real estate property.

Related Info: incidental, estate, real, market, appliances, value


What is Substituted Basis?

Before you enter into any 1031 exchange of your real estate, you should figure the basis of the Replacement Property you are acquiring and see how it fits in with your financial and tax plans.
The rules for figuring basis for property acquired in a tax-free exchange take into account the gain is not forgiven, but “postponed” This is accomplished by providing a “substituted basis” for the property received. The basis of your Relinquished Property exchanged without recognition of gain becomes the basis of your new property. Your old basis is “substituted” into the new property. Someday, if you dispose of the new property, the previously unrecognized gain (or loss) might be subject to tax.

Basis is used as the base point for the calculation of capital gain on a transaction. Capital gain is described as the difference between the basis and the adjusted sales price of a property.

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Can I 1031 Exchange an easement and avoid capital gain on the sale?

Granting or selling an easement is usually not a taxable sale of property so you really don’t have to consider a 1031 exchange. Instead, the amount received for the easement is subtracted from the basis of the property. If only a part of the entire tract of property is permanently affected by the easement, only the basis of that part is reduced by the amount received. If it is impossible or impractical to separate the basis of the part of the property on which the easement is granted, the basis of the whole property is reduced by the amount received.

Any amount received that is more than the basis to be reduced is a taxable gain. The transaction is reported as a sale of property. The character of the gain is determined by the classification of the property. Since most easements involve land, the gain should be a long-term capital gain. In cases where the amount received is more than the basis, the basis in property will be reduced to zero.

Related Info: sale, gain, capital, easement, basis, reduced, taxable


When is a 1031 Exchange taxable?

It must be understood that ALL property sales including those that have been converted to 1031 Exchange are taxable. The difference is when do you pay the tax? On a straight sale, you would pay the tax in the same year that you sold the property. With the 1031 Exchange you get to enjoy the benefits for deferring your capital gains tax until the next sale of that property.

When the IRS adopted the 1031 Exchange rules in 1990-91, the intent was to control how 1031 Exchanges were handled. The rules are simple and include:

1.  Both properties the one sold and the ones bought must qualify as like-kind.

2.  1031 Exchange proceeds must be stored in a Safe Harbor during the 1031 Exchange Period, no exceptions.

3. Replacement Properties must be identified with 45 days of closing sale on the sold property.

4. All purchases of Identified Replacement Properties must be closed within 180 days of the sold property.

Attempts to disregard or circumvent any of these rules, converts your 1031 Exchange back into a sale which means your capital gains tax would be due in the same year that you sold your property.

Related Info: taxable, sale, rules, properties, gains, identified, replacement


Can I use my 1031 Exchange proceeds to make improvements to my home?

Though you may be tempted to spend them, your 1031 Exchange proceeds are setting in your Qualified Intemediary's trust account for one reason and one reason only, to purchase identified replacement properties. Do NOT listen to any advice from someone telling you different. That would be a huge mistake. Using these funds for any other purpose will create a Constructive Receipt issue will will convert your 1031 Exchange into a sale. When this happens your dreams of deferring your capital gains tax will never come true! You'll be presented with a bill from the IRS to pay your capital gains tax. Yikes. Better to keep the money tucked away in the Safe Harbor it was intended and follow the rules as they were written!

Related Info: home, improvements, proceeds, reason, capital, gains, you'll, deferring, sale


Are 1031 exchanges exempt from the 3.8% real estate gains (medicare) sales tax that begins in in 2013?

The 3.8% real estate gains sales tax is applicable for real estate transactions where the gain is over $250k. The gain up to and including $250k is not subject to the new tax. This tax is not the same as the capital gains tax where the 1031 Exchange is meant to "defer" your capital gains tax until a different time. If you are conducting a 1031 Exchange and are moving your equity into another 1031 property, your liability would be deferred as there would be no gain to tax.

Related Info: sales, begins, 2013, medicare, gains, exempt, gain, capital, $250k, estate, real


Some 1031 companies say “defer”, some say “don’t pay” capital gains tax with a 1031 Exchange. Which is correct?

Answer:  When you sell your property and purchase another property with a like-kind property you are conducting an IRS 1031 Exchange. "Defer" or "Don't Pay" is simply marketing language intended to get your to consider a 1031 Exchange if you have property to sell. With a 1031 Exchange the reality is that "some day" you will be paying the capital gains on your property but with a 1031 Exchange you are really "deferring" it to some other time. We have had customers defer their capital gains several times by buying and selling the same piece of land. Since land almost always qualifies, under the 1031 Exchange rules you can do this. The question is with a 1031 Exchange are you saying that you will "never" pay your capital gains tax. In our 20 plus year experience with the US Internal Revenue Service we learned to "never say never".

Related Info: correct, gains, capital, defer, companies, land, buying, selling


Can I sell a 1031 Exchange property to my husband?

It should be understood that no gain or loss is recognized as a 1031 Exchange on a transfer of property from an individual to a spouse.

This also applies in a divorce, no gain or loss is recognized on a transfer of property to a former spouse. There is no gain or loss even if the transfer is in exchange for the release of marital right or for other considerations or the transferred property is subject to liabilities that are more than the property's adjusted basis and it was not transferred in trust.

Any transfer of property to a spouse or former spouse not subject to gain or loss is treated as a gift and is not considered a sale or exchange. There are no gift taxes if the transfer is made within a certain three-year period. This period starts two years before the divorce and ends one year after the divorce—a total of three years. If the transfer is made at any other time, it is subject to the gift tax. However a transfer under a property settlement agreed on before the divorce, and approved more than two years later by a divorce court, is subject to the gift tax.

Related Info: husband, transfer, divorce, gift, loss, gain, spouse


How can I 1031 Exchange a vineyard in Oregon for an apartment complex in Hawaii?

So long as the property you own in Oregon qualifies a like-kind, you may 1031 Exchange it with any other like-kind property in any state, including Hawaii. So the answer to your questions, is YES, you may 1031 Exchange a vineyard in Oregon for an apartment complex in Hawaii, so long as you follow the rules set down by the IRS and use a Qualified Intermediary to act as facilitator of the transaction.

Related Info: hawaii, complex, apartment, oregon, vineyard, like-kind, facilitator, transaction


In a 1031 Exchange, what is the Realtor's fee?

When a 1031 Exchange closes, the fees that get paid to the Realtor are the same whether your closing is a 1031 or a straight sale of the property. This is because the handling of the sale is EXACTLY the same whether you are exchanging or selling. There should be  no different in the cost to market the property. The sales commission paid the the Real Estate Broker is the same. The only difference is an extra handful of 1031 Exchange documents to sign at the closing table. If your Realtor is charging you more for helping you sell your property with a 1031 Exchange, we recommend shopping for another Realtor. Visit our 1031 Exchange Professionals Directory if you are looking for a qualified 1031 Exchange Realtor.

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How do conservation easements on 1031 Exchange replacement real estate work?

From our 1031 Exchange Knowledge Base:

In LTR 9851039, the Internal Revenue Service ruled the exchange of an agricultural conservation easement for a farm property qualifies as a 1031 exchange. The IRS said a parcel of property was of like-kind when exchanged for a remainder interest in a parcel of property. The parties to the exchange were a trust and a corporation. The corporation had one class of stock. The trust owned most of the shares. The adult son of the trustor owned the rest. The corporation owned a parcel of land that it held as income producing rental property. The trust owned a parcel of property also held as income producing property.

The trust proposed to convey to corporation the property on which its headquarters was located in exchange for a vested remainder interest in the property owned by the corporation. After the exchange, the corporation would continue to use the property it gets in the exchange in its business.

The trust would hold its interest in the property it gets for investment. It would hold it as an income producing property when it ripens into a possessory interest at the end of a seven-year period. The IRS said the term "like-kind" refers to the nature or character of the property, not to its grade or quality. Therefore, certain factors, such as whether the property is improved or unimproved, are not relevant. The IRS said the nature and character of properties exchanged by the trust and corporation would constitute like-kind property. Because the nonpossessory interest would become a possessory interest and therefore, a fee interest, the rights vested in the parties were substantial.

Related Info: estate, work, real, replacement, easements, conservation, interest, corporation, owned, parcel, like-kind, income


Can I 1031 Exchange a business?

The property that is owned by your business is subject to 1031 Exchange so long as you are exchanging the real property. The best advice is to consult your attorney or CPA regarding the property to see if it qualifies. It's also a good idea to determine how it will divided among your partners, if any. The nature of the partnership determines how the proceeds are split. Also be aware that the partnership must conduct the 1031 Exchange, not the individuals.

Related Info: business, partnership, nature, partners, among, determines, proceeds


When does the 45 day identification period begin?

Great question and one that often gets confused. Some professionals think that the 45 day identification 1031 Exchange period begins when the QI gets the money. Others think it begins on the date that the documents are signed during the closing. Well, what if it takes a week for the QI to get the money? Or, what if one party signs for a property and the other party signs 4 days later? The correct date for when the 45 day identification period is the date that the sale is recorded with the county, sometimes this is the same day as the closing. Sometimes it is when the QI gets the money. But date you begin your calculation of the 45 days is the date the sale is recorded. This date is also the beginning of the 180 day closing period as well.

Related Info: period, identification, date, money, closing, begins, party


Can i enter a 1031 exchange on my primary residence if i run a trade or business from it?

Great question. Your primary residence is excluded from 1031 Exchange as it is not considered like-kind by the IRS. The fact that you are running your business from it does not matter. Consider the farmer who runs his farm from his home. While the land his farm occupies may qualify for 1031 Exchange, his home, even though he ran the business from his home, does not qualify for 1031 Exchange and must be treated as a straight sale. These are called Mixed Classification exchanges and more information about them can be obtained in our 1031 Exchange Knowledge Base.

Related Info: business, trade, residence, primary, home, qualify, farm, sale, straight


In a 1031 Exchange, what does like-kind mean?

Like-kind is a federal tax term relating to the nature or character of the real estate in the hands of the owner rather than to its grade or quality. The fact that the real estate is improved or unimproved is not material, for that fact relates only to the grade or quality of the property and not to its kind or class.

Qualified real estate located in the 50 United States is of like-kind when it is 1031 Exchanged for other qualified real estate located in the 50 United States and the U.S. Virgin Islands. The definition of "50 United States" means exactly that. Any foreign real estate included in the exchange will be treated as boot paid or received.

Related Info: like-kind, real, estate, united, states, grade, quality






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