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The term “1031 Exchange” refers to IRS code section 1031 which gives taxpayers the ability to defer their capital gains tax from the sale of one property as long as the profit is used to purchase another property of like kind. A 1031 exchange is considered in a literal sense, the swapping of one investment property for another. Unfortunately the probability of finding a building to purchase and that building owner wanting to swap properties with you, is very low. This is why most investors choose to do what is called a delayed exchange, or a three party exchange, in which an intermediary holds the revenue from the sale of a property and then uses those funds to purchase the property of like-kind that you choose. With all of the different rules and regulations surrounding a 1031 exchange, it can be hard to know when is the right time and even harder to find the right property. That’s where we come in, with our team of experts and commercial property resources, NPA will help you plan and execute the exchange and also help you find the right investment property.
Why should I consider a 1031 exchange?
- 1031 exchanges can be a useful tool for investors looking to shift their investments without having to pay taxes to do so. One of the reasons why a 1031 exchange can be so attractive is because it allows investors to shift the focus of their investments without having to cash out. For example, an investor may have a large multi-family investment property that requires a considerable amount of management and wants to move their investment into a less hands on property, perhaps a large office building. The investor could perform a 1031 exchange and eliminate capital gains tax from selling the multi-family property by taking the proceeds from that sale and putting them into the office building. By doing so, the investor has changed the nature of his investment without having to cash out and pay taxes on their capital gains.
What are the rules associated with performing a 1031 exchange?
- As we all know, the IRS doesn’t make anything simple. However, here are some ground rules for completing a 1031 exchange that will help you decide if this strategy will work for you. First, the property you are exchanging must be of like-kind. Now “like-kind” is a very broad term and isn’t meant to be thought of in the literal sense. For example, a movie theater and an apartment complex aren’t necessarily of “like-kind” to one another but in the IRS eyes, they are. Like-kind in the eyes of the IRS basically means that both buildings are in deed, buildings, and they are both investment properties and not a primary residence or vacation home. Like-kind can even be applied to vacant land or multiple properties in exchange for one property or vice versa. The important rule here is that the property or properties being exchanged are of equal or higher value than the initial investment property. A 1031 exchange must also apply to a single taxpayer; meaning the name or organization on the title from the property being sold must match the name on the title of the property being exchanged. The exception here is if an individual owns an LLC that holds the property, they could use their own name or the LLC on the purchase property.
- 45 days to find a property, 180 days to purchase. This is another rule associated with 1031 exchanges that state if a property is going to be used in a 1031 exchange, the property of which the taxpayer would like to transfer capital gains to, it must be identified within 45 days of the sale of the initial property. The taxpayer then has 180 days from the sale to complete the purchase of the new property or the IRS will tax the capital gains. This rule can be tricky and sometimes prevents taxpayers from completing a 1031 because they couldn’t find a suitable building. Net Profit Advisors will not only help plan and execute the exchange, but we will also help identify a new property for the exchange.