What is a 1031 exchange?
A proper 1031 exchange allows an investor to use the proceeds from the sale of one property to buy another property and defer all capital gain taxes. This can help the investor accelerate substantial portfolio growth and increased return on investment because the exchange allows for 100% preservation of equity.
Who can qualify for a 1031 exchange?
Investment and business property owners may qualify for a Section 1031 deferral. Under Section 1031, individuals, C & S corporations, general or limited partnerships, LLCs, trusts and any other taxpaying entity have the ability set up an exchange of business or investment properties for business or investment properties.
What type of property can be exchanged?
Both the property you sell and the replacement property you buy must meet certain requirements. Both of the properties used in the exchange must be held for use in a trade, business, or for investment, it will not qualify if the property is used primarily for personal use (primary residence, second home, or vacation home). To qualify, they must be like-kind as well, meaning they have to be of same nature, character or class even if they differ in grade or quality. For instance, real property that is improved with a residential rental house is like-kind to vacant land. Property in the United States is not like-kind with property outside the United States.
Is there a time limit to complete an exchange?
The swap of properties in the exchange does not have to be simultaneous but does have to meet two time limits or you will face taxes on your entire gain. It is important to note that with the exception of presidentially declared disasters, these limits cannot be extended for any reason. You have 45 days from the date you sell the relinquished property to find potential replacement properties. You must provide identification of the property with proper description in writing, signed by you, to the seller or qualified intermediary of the property involved. The replacement property must be received and exchange completed within 180 days of the sale of the relinquished property or their tax filing date, whichever is earlier.
It is vital to have a comprehensive knowledge of the exchange process and the Section 1031 code if you wish to take advantage of the full potential of these benefits.