Virginia Beach Vacation Rentals and Real Estate Sales

1031 Tax Exchanges

1031 Tax Exchanges are talked about a lot among land investors, however very few people know how they work and exactly what they are for.

A 1031 Tax Exchange is a tool provided by the Internal Revenue Code section 1031 to defer the capital gains tax liability created by the appreciation of the value of a piece of investment property from the time it was purchased and the time it was sold.

For Example:

Original purchase price=	$100,000
Final sales price=	$175,000
Capital/Taxable Gain=	$75,000

The capital gain of $75,000 is subject to taxation, but by using the 1031 Tax exchange you can avoid the tax liability by purchasing a “Like kind” property with the proceeds from the sale of an investment property. “Like kind” DOES NOT refer to the specific type of property, i.e. house, duplex, commercial, residential but to “Real”(land) as apposed to “Personal.”(stereo, cars, etc) That is you can’t sell a rental house and buy a boat, but you could sell a duplex and purchase a commercial shopping center since they are both “Real” property. A person’s primary residence or the home you live in has a deduction for its capital gain tax liability provided you have lived in it for a certain amount of time.

By using a 1031 tax exchange instead of selling for cash a person can trade up to different properties that might consolidate/diversify holdings, reduce management expenses, or increase cash flow. It is a very effective way to build personal wealth by being able to defer all capital gains on real estate investments. Stocks and other “liquid” assets do not have such provision and are subject to capital gains tax when they are sold for a profit.

Another Example:

	Sale for Cash	Exchange for like kind
Proceeds from sale	$200,000	$200,000
Tax owed(@20%)	$40,000	0
Cash to reinvest	$160,000	$200,000

To perform a 1031 Tax exchange you must first choose a “Qualified Intermediary” to handle the transaction and hold on to the money while the exchange is occurring. A few examples of “Qualified Intermediary’s” are a Lawyer, Title Agency, Real Estate Broker, or a company that specifically handles 1031 Tax exchanges. Once you have picked your intermediary you can put your property up for sale and begin looking for a new piece that you wish to purchase, the sooner you start looking the better. The only other stipulation for the property you intend to purchase is that it must have a greater value then the property you are selling. When you accept a contract for your property and close on it several things happen. First the proceeds from the sale are moved into the intermediary’s trust account where it will stay until you purchase your new property. Second a clock starts counting down the time you have to complete the exchange. You have 45 days to identify and declare the piece of property you intend to purchase with the proceeds from the first sale and you must close on it within 180 days.

There are several other Types of exchanges.

A Construction Exchange is used for developing a piece of raw land that might not have a value greater than the exchangers sold property until improvements are added.

A Reverse Exchange gives the exchanger the ability to identify and purchase the property they would have bought in a regular exchange first before selling their property.

A Multi-property Exchange which is a normal exchange however you can sell a bunch of smaller properties and role the proceeds into a single larger one, or sell a large one and purchase several smaller properties. Again the total value of what you buy must be greater with what you are selling.

Disclaimer: This page is for general information purposes only. For complete details on 1031 tax Exchanges contact your attorney or CPA.

Email: Atkinson Realty: info@atkinsonrealty.com