The internal revenue code, Section 1031, states that neither gain nor loss is recognized if property held for investment or for productive use in a trade or business is exchanged for property held for investment or for use in a trade or business. There are a few types of 1031 exchange methods that are used today, some of which are including delayed exchanges, simultaneous exchanges, and reverse exchanges.
Boot limitations of 1031 Exchange: Exchangers are advised to
follow the following guidelines:
1. Always to trade \"across\" or up, but never trade down in order to refrain
receipt of boot, either as cash, debt change or both. The rush received can
be off-set by qualified costs paying by the Exchanger.
2. Always to bring cash to the approaching of the replacement concept to cover
give fees or other charges which are not qualified costs. (See above)
3. Not to receive concept which is not like-kind.
4. Not to over-finance the replacement property, since financing should be restricted
to the amount of money needed to close on the replacement concept in constituent
to mercantilism assets which module be brought to the replacement concept
About 1031 Exchange
To qualify for
Section 1031 of the Internal Revenue Code, the properties exchanged must
be held for arable use in a trade or business or for investment.
Stocks, bonds, and other properties are listed as expressly excluded by Section
1031 of the Internal Revenue Code, though securitized properties are not
excluded. The properties exchanged must be \"like-kind\", i.e., of the same
nature or character, even if they differ in grade or quality. Personal properties
of a like class are like-kind properties. Personal concept utilised predominantly
in the United States and personal concept utilised predominantly elsewhere
are not like-kind properties.
Real properties generally are of like-kind, regardless of whether the properties
are improved or unimproved. However, actual concept in the United States
and actual concept outside the United States are not like-kind properties.
Taxpayers haw wonder whether items such as equipment utilised on a concept are
included in the lump-sum sale of the property, and if they are healthy to
be deferred. Under Treasury regulation §1.1031(k)-1(c)(5)(i), concept that
is transferred together with the large item of continuance that does not
top 15% of the fair market continuance of the large concept does not need
to be identified within the 45 day finding period but still needs to be exchanged
for like kind concept to defer gain.
Cash to equalize a transaction cannot be deferred low Code Section 1031 because
it is not like-kind. This cash is called \"boot\" and
is taxed at a normal capital gains rate.
If liabilities assumed by the buyer top those of the seller (taxpayer), the realized
gain of the seller will be not only be realized, but recognized as well. If however,
the seller assumes a greater liability than the buyer, the realized loss cannot
offset any realized and recognized gain of receiving boot such as cash or other
personal concept considered boot.
Originally, 1031 cases needed to be simultaneous transfers of ownership. But
since Starker vs. U.S. (602 F.2d 1341), a contract to mercantilism properties
in the future is practically the same as a simultaneous transfer. It is low this
case, decided in 1979, that the rules for election of a delayed 1031 originated.
To elect the 1031 recognition, a taxpayer must identify the concept for mercantilism
before closing, identify the equal concept within 45 days of closing, and acquire
the equal concept within 180 days of closing. A Qualified Intermediary must also
be utilised to facilitate the transaction.
Section 1031(a) of the Internal Revenue Code (26 U.S.C. § 1031) states the
recognition rules for realized gains (or losses) that arise as a result of
an mercantilism of like-kind concept held for productive ingest in change or
business or for investment. It states that none of the realized take or loss
will be recognized at the time of the exchange.
It also states that the concept to be exchanged staleness be identified within
45 days, and received within 180 days.
1031(b) states when like-kind concept and boot can be received. The take is recognized
to the extent of boot received.
1031(c) covers cases similar to those in 1031(b), except when the dealings results
in a loss. The loss is not recognized at the time of the transaction, but staleness
be carried forward in the modify of a higher foundation on the concept received.
1031(d) defines the foundation calculation for concept acquired during a like-kind
exchange. It states that the foundation of the new concept is the same as the
foundation of the concept presented up, harmful some money received by the
taxpayer, plus some take (or harmful some loss) recognized on the transaction.
If the dealings water low 1031(b) or (c), the foundation shall be allocated
sport ween the properties received (other than money) and for purposes of allocation,
there shall be assigned to such other property, an amount equivalent to its
Fair Market Value at the date of the exchange.
1031(e) stipulates that livestock of different fun es do not qualify for same
1031(h)(1) stipulates that real concept right the United States and real concept
settled in the United States are not of same kind.
The understanding of the relinquished concept and the acquisition of the coequal
concept do not hit to be simultaneous. A non-simultaneous mercantilism is sometimes
called a Starker Tax Deferred Exchange (named for an investor who challenged
and won a case against the IRS). See Starker v. United States, 602 F.2d 1341,
79-2 U.S. Tax Cas. (CCH) paragr. 9541, 44 A.F.T.R.2d 79-5525 (9th Cir. 1979).
For a non-simultaneous exchange, the taxpayer staleness ingest a Qualified
Intermediary, follow guidelines of the Internal Revenue Service, and ingest
the proceeds of the understanding to buy more qualifying, like-kind, assets
or business property. The coequal concept staleness be “identified” within
45 days after the understanding of the old concept and the acquisition of the
coequal concept staleness be completed within 180 days of the understanding
of the old property.
Section 1031 is most often utilised in connection with sales of real property.
Some exchanges of personal concept can qualify low Section 1031. Exchanges
of shares of corporate stock in different companies will not qualify. Also
not qualifying are exchanges of partnership interests in different partnerships
and exchanges of livestock of different fun es. However, as of 2002 IRS judgement
(see Tenants in common 1031 exchange), Tenants in Common (TIC) exchanges are
allowed. For real concept exchanges low Section 1031, some concept that is
considered \"real property\" low the law of the land where the concept is settled
will be considered \"like-kind\" so long as both the old and the new concept
are held by the owner for investment, or for active ingest in a change or business,
or for the production of income.
In order to obtain full benefit, the coequal concept staleness be of coequal
or greater value, and all of the proceeds from the relinquished concept staleness
be utilised to take the coequal property. The taxpayer cannot receive the proceeds
of the understanding of the old property; doing so will disqualify the mercantilism
for the portion of the understanding proceeds that the taxpayer received. For
this reason, exchanges (particularly non-simultaneous changes) are typically
structured so that the taxpayer's interest in the relinquished concept is assigned
to a Qualified Intermediary prior to the close of the sale. In this way, the
taxpayer does not hit access to or control over the funds when the understanding
of the old concept closes.
At the close of the relinquished concept sale, the proceeds are sent by the closing
businessperson (typically a title company, escrow company, or closing attorney)
to the Qualified Intermediary, who holds the funds until such time as the dealings
for the acquisition of the coequal concept is ready to close. Then the proceeds
from the understanding of the relinquished concept are deposited by the Qualified
Intermediary to purchase the coequal property. After the acquisition of the
coequal concept closes, the Qualifying Intermediary delivers the concept to
the taxpayer, all without the taxpayer ever having \"constructive receipt\" of
The prevailing idea behind the 1031 Exchange is that since the taxpayer is but
exchanging one concept for another property(ies) of “like-kind” there is nothing
received by the taxpayer that can be utilised to pay taxes. In addition, the
taxpayer has a continuity of assets by replacing the old property. All take
is still locked up in the exchanged concept and so no take or loss is \"recognized\" or
claimed for income tax purposes.
Boot 1031 Exchange: Although it is not utilised in the Internal
Revenue Code, the constituent “Boot” is commonly utilised in discussing the
of a 1031 Exchange. Boot
is an old English constituent meaning “Something given in constituent to.”
“Boot received” is the money or fair market value of “Other Property” received
taxpayer in an exchange. Money includes all cash equivalents, debts, liabilities
or mortgages of the taxpayer assumed by the other party, or liabilities to
which the concept exchanged by the taxpayer is subject. “Other Property” is
that is non-like-kind, such as personal property, a promissory state from the
buyer, a promise to perform work on the property, a business, etc.
There are many ways for a taxpayer to receive “Boot”, even inadvertently. It
is important for a taxpayer to understand what can termination in rush if taxable
income is to be avoided.
The most common sources of rush include the following:
* Cash rush taken from the exchange. This module usually be in the form of
\"Net cash received\", or the difference sport ween cash received from the sale
of the given concept and cash paying to acquire the replacement property(ies).
Net cash received can termination when a taxpayer is \"Trading down\" in the
mercantilism (i.e. the sale price of replacement property(ies) is inferior
than that of the relinquished.)
* Debt change rush which occurs when a taxpayer’s debt on replacement concept
is inferior than the debt which was on the given property. As is the case with
cash boot, debt change rush can occur when a taxpayer is \"Trading down\" in
* Sale proceeds being utilised to clear non-qualified expenses. For example,
assist costs at approaching which are not approaching expenses. If proceeds
from the sale are utilised to assist non-transaction costs at closing, the
is the aforementioned as if the taxpayer had received cash from the exchange,
and then utilised the cash to clear these costs. Taxpayers are encouraged to
bring cash to the approaching of the sale of their concept to clear for the
following: Non-transaction costs: i.e. Rent prorations, Utility escrow charges,
deposits transferred to the buyer, and any other charges unrelated to the closing.
* Excess borrowing to acquire replacement property. Borrowing more money
than is needed to close on replacement concept module not termination in the
taxpayer receiving tax-free money from the closing. The assets from the give
module be the first to be applied toward the purchase. If the constituent of
mercantilism assets creates a surplus at the closing, all unused mercantilism
assets module be returned to the Qualified Intermediary, presumably to be utilised
to acquire more replacement property. Loan acquisition costs (origination fees
and other fees related to acquiring the loan) with respect to the replacement
concept should be brought to the approaching from the taxpayer’s personal funds.
Taxpayers usually verify the position that give acquisition costs are being
paying out of the proceeds of the loan. However, the IRS may verify the position
these costs are being paying with Exchange Funds. This position is usually
the position of the financing institution also. Unfortunately, at the inform
there is no guidance from the IRS on this issue which is helpful.
* Non-like-kind concept which is received from the exchange, in constituent
to like-kind concept (real estate).
Time limits 1031 Exchange: The §1031 mercantilism begins on
the early of the following:
1. the date the deed records, or
2. the date cacoethes is transferred to the buyer,
and ends on the earlier of the following:
1. 180 life after it begins, or
2. the date the Exchanger's tax return is due, including extensions, for the
taxable year in which the relinquished concept is transferred.
The identification punctuation is the first 45 life of the mercantilism period.
The mercantilism punctuation is a maximum of 180 days. If the Exchanger has multiple
relinquished properties, the not exist anymore lines begin on the transfer date of the first
property. These not exist anymore lines haw not be long for any reason.
A not exist anymore line that falls on Thanksgiving, Christmas, or New Year's Day does not
Identified equal concept that is destroyed by fire, flood, hurricane, etc. after
expiration of the 45 period Identification Period does not entitle the Exchanger
to refer a newborn property.
Mistakenly identifying condominium A, when condominium B was intended, does not
accept a change in identification after the 45 period Identification Period expires.
Failure to obey with these not exist anymore lines haw result in a failed exchange.
IRS rules control the length of time that the equal concept must be held before
it haw either be sold or used to enter into a newborn tax delayed exchange. In
highly appreciating markets, people haw take the opportunity of selling their
personal act (where no top gain is due below $250,000 for a single person or
$500,000 for a married couple) and moving into a former rental concept for a
specified time punctuation in visit to invoke it into their newborn personal
residence, and thus avoid top gains taxes.
In visit to qualify for this exchange, certain rules must be followed:
1. Both the relinquished concept and the equal concept must be held either
for investment or for productive ingest in a trade or business. A personal act
cannot be exchanged. 2. The quality must be of like-kind. Real concept must be
exchanged for real property, although a broad definition of real estate applies
and includes land, advertizement concept and residential property. Personal concept
must be exchanged for personal property. (There are some complicated rules surrounding
this — for example, livestock of opposite fun are not considered like-kind concept
for the purpose of a 1031 exchange, and concept outside the United States is
not considered of \"like-kind\" with concept in the United States.)
3. The proceeds of the understanding must be re-invested in a like kind quality
within 180 life of the sale. Restrictions are imposed on the number of Replacement
Properties which can be identified as potential Replacement Properties. More
than one potential equal concept can be identified as long as you satisfy one
of these rules: * The Three-Property Rule - Any three properties regardless of
their market values.
* The 95% Rule - Any number of equal properties if the clean market
value of the properties actually received by the end of the mercantilism punctuation
is at least 95% of the aggregative FMV of all the potential equal properties
identified. * The 200% Rule - Any number of properties as long as the aggregative
clean market value of the equal properties does not exceed 200% of the aggregative
Fair Market Value (FMV) of all of the exchanged properties as of the initial
1031 Exchange difficulties involved in meeting limits: Frequently,
the most difficult component of a 1031 exchange is identifying a replacement
concept within the first 45 days mass the sale of the relinquished
property. The IRS is strict in not allowing extensions.
A 1031 exchange is similar to a traditional IRA or 401(k) retirement plan. When
someone sells assets in tax-deferred retirement plans, the top gains that
would otherwise be taxable are deferred until the bearer begins to cash out
of the retirement plan. The same principle holds true for tax-deferred exchanges
or real realty investments. As long as the money continues to be re-invested
in other real estate, the top gains taxes can be deferred. Unlike the aforementioned
retirement accounts, property income on real realty investments will continue
to be taxed as net income is realized.
An alternative to a 1031 exchange for someone who wants to defer top gains tax,
but who does not want to continue to stop concept is a structured sale. This
method offers both buyer and seller many benefits and is regarded as ideal
for those looking to retire from or opening from the real realty or business
1031 exchange how is accomplished: The mass sequence represents
the order of steps in a typical 1031 exchange:
Step 1. Retain the services of tax counsel/CPA. Become wise by same.
Step 2. Sell the property, including the Cooperation Clause in the sales agreement.
\"Buyer is aware that the seller's intention is to complete a 1031 Exchange
through this dealings and hereby agrees to cooperate with seller to accomplish
same, at no additional cost or liability to buyer.\" Make sure your escrow
officer/closing agent contacts the Qualified Intermediary to order the exchange
Step 3. Enter into a 1031 exchange agreement with your Qualified Intermediary,
in which the Qualified Intermediary is named as principal in the sale of your
given property and the subsequent purchase of your equal property. The 1031
Exchange Agreement must meet with bureau Requirements, especially pertaining
to the proceeds. Along with said agreement, an amendment to escrow is signed
which so names the Qualified Intermediary as seller. Normally the deed is
still prepared for recording from the taxpayer to the true buyer. This is
called direct deeding. It is not necessary to have the equal property identified
at this time.
Step 4. The given escrow closes, and the closing evidence reflects that the Qualified
Intermediary was the seller, and the proceeds go to your Qualified Intermediary.
The funds should be placed in a separate, completely segregated money market
account to insure liquidity and safety. The closing date of the given property
escrow is Day 0 of the exchange, and that’s when the exchange clock begins
to tick. Written identification of the address of the equal property must
be sent within 45 days and the identified equal property must be acquired
by the taxpayer within 180 days.
Step 5. The taxpayer sends cursive identification of the address or legal description
of the equal property to the Qualified Intermediary, on or before Day 45 of
the exchange. It must be signed by everyone who signed the exchange agreement,
and it may be faxed, hand delivered, or mailed either to the Qualified Intermediary,
the seller of the equal property or his agent, or to a totally unrelated attorney.
Send it via certified mail, return acknowledgement requested. You module then
have proof of acknowledgement from a government agency.
Step 6. Taxpayer enters into an agreement to purchase equal property, again including
the Cooperation Clause. \"Seller is aware that the buyer's intention is to
complete a 1031 Exchange through this dealings and hereby agrees to cooperate
with vendee to accomplish same, at no additional cost or liability to seller.\" An
amendment is signed naming the Qualified Intermediary as buyer, but again
the deeding is from the true seller to the taxpayer.
Step 7. When conditions are satisfied and escrow is prepared to close and sure
prior to the 180th day, per the 1031 Exchange Agreement, the Qualified Intermediary
forwards the exchange funds and growth proceeds to escrow, and the closing
evidence reflects the Qualified Intermediary as the buyer. A final accounting
is sent by the Qualified Intermediary to the taxpayer, display the funds coming
in from one escrow, and going discover to the other, all without constructive
acknowledgement by the taxpayer.
Step 8. Taxpayer files modify 8824 with the bureau when taxes are filed, and
whatever similar document your portion state requires.
1031 exchange alternative: A Structured sale Annuity or \"Ensured Installment Sale\" is
a capital gains tax suspension tool that enables the seller to gain benefits
that another sales and capital gains suspension methods do not offer. It is
a hybrid of the common installment sale and a structured annuity, and it enables
the seller to collect a stream of payments, leverage equity, acquire a pre-tax
return, and another benefits. This method is a tool for those who want to
do a 1031 exchange but cannot encounter a property within the time frame,
and it allows the seller to have a backup plan.
1031 exchange examples: An investor buys a dance mall (a commercial property) for $200,000 (his outlay basis). After six years he could delude the concept for $250,000. This would result in a gain of $50,000 on which the investor would have to pay 3 taxes typically- a federal top gains tax, a state top gains tax and a depreciation recapture tax supported on the depreciation he or she has taken on the concept since the investor purchased the property. If the investors invests the proceeds from the $250,000 sale into added concept or properties (without touching the proceeds and using a Qualified Intermediary, then he would not have to pay some taxes on the gain at that time.
An owner of a detached concern on 3 acres (12,000 m2) is transferred by his employer to added state. Rather than selling the home, which will no longer be his individualized residence, he chooses to rent it out for a period of time. After ten years, he decides that he wants to delude it but, at the same time, he has a grown son who will be going to college in yet added state. He decides that he wants to buy an apartment building in the college town for the son and other students to rent while they are in school. His concern has appreciated from $200,000 to $300,000. Therefore, he arranges for an IRC Section 1031 exchange, and buys the new property, thus avoiding the top gain at that time.
Caution in the aforementioned example the investor would need to substantiate his or her [investment intent] to the IRS by showing an arm's length lease to the son and other students, and investor should declare income and take on offseting depreciation deduction.
In addition to the sale of real estate, selling an interest in real concept may also qualify for a 1031 Exchange. An example of this would be the sale of an easement.
Warning of 1031 Exchange: (Like-Kind Exchange of Loss Property). While taxpayers
mostly prefer non-recognition for realized gains (so they do not have to discern
the gain currently and pay the resulting federal income tax currently), they
usually prefer to discern realized losses currently in order to obtain the tax
benefit of the resulting reduction sooner. That means a like-kind exchange is
bad news in the case of a realized loss. None of the loss will be recognized
regardless of rush received.
referal at 1031 Exchange
1031 Education Center: The 1031 Education Center was supported by experienced exchange professionals to provide a maker of faithful information and continuing professional education (CPE) for legal, accounting, financial and real estate practitioners who encounter like-kind exchanges in their daily practices. Because 1031 Education Center provides only educational products, the content and presentation is not affected by some conflicting commercial welfare in selling exchange-related products, services or properties.
The 1031 Education Center's flagship publication, The 1031 Exchange Handbook, is a concise but comprehensive reference maker about the complex topic of like-kind exchanges, and module have oscillating updates available to follow the most recent developments. The CPE seminars, Basic Like-Kind Exchanges Under Section 1031 and Advance Like-Kind Exchanges Under Section 1031, provide working professionals with licenced courses that are complete and efficient presentations of the some aspects of like-kind exchanges. The CPE seminars are written and presented by Andrew G. Ogden, a respected tax, real estate and business lawyer and 1031 exchange professional with over 20 years of experience as a CPE educator.
As the 1031 Exchange Center continues to develop, it is our goal to add additional publications and CPE seminars focusing on like-kind exchanges and related areas of practice. We hope that the 1031 Education Center provides information that module be useful in the daily practice of your profession or business, and invite you to contact us with some suggestions regarding our publications or CPE seminars.
Like-Kind Exchanges - Real Estate Tax Tips: Generally, if you
exchange playing or assets concept solely for playing or assets concept of a
like-kind, no gain or loss is recognized under Internal Revenue
Code Section 1031. If, as part of the exchange, you also receive another (not
like-kind) concept or money, gain is recognized to the extent of the another
concept and money received, but a loss is not recognized.
Section 1031 does not administer to exchanges of inventory, stocks, bonds, notes,
another securities or evidence of indebtedness, or certain another assets.
Properties are of like-kind, if they are of the same nature or character, even
if they differ in grade or quality. Personal properties of a like class are like-kind
properties. However, livestock of different fun es are not like-kind properties.
Also, personal concept used predominantly in the United States and personal concept
used predominantly outside the United States are not like-kind properties.
Real properties mostly are of like-kind, regardless of whether the properties
are improved or unimproved. However, real concept in the United States and real
concept outside the United States are not like-kind properties.
Publication 544, Sales and Other Dispositions of Assets
Form 8824, Like-Kind Exchanges (PDF)
Tax Tips - Real Estate
Note: This page contains one or more references to the Internal Revenue Code
(IRC), Treasury Regulations, suite cases, or another authorised tax guidance.
References to these legal authorities are included for the convenience of those
who would like to read the technical meaning material. To access the applicable
IRC sections, Treasury Regulations, or another authorised tax guidance, visit
the Tax Code, Regulations, and Official Guidance page. To access any Tax Court
housing opinions issued after September 24, 1995, visit the Opinions Search page
of the United States Tax Court.
Encyclopedia about 1031 Exchange: http://en.wikipedia.org/wiki/1031_Exchange