Tax deferred Exchanges (1031)

Taxes, Taxes, Taxes!  Taxes are a major part of all real estate transactions. There are many different tax advantages to investing in real estate. These tax advantages differentiate real estate from other investments and are important to understand.

The Internal Revenue Code allows for the tax deferred exchange of investment properties if you follow all the rules concerning this exchange. This is one sweet deal for an investor.  When property held for investment or productive use in a trade or business changes hands through an exchange, taxes on the gain can be deferred. Some investors state that they would rather pay their taxes now, as opposed to paying them later when taxes may be higher. This view completely ignores the time value of money. Because of the time value of money, paying one dollar ten years from now is better than paying one dollar today. Even paying two dollars ten years from now is usually better than paying one dollar today.

This tax-deferred exchange is actually an interest free loan from the government! This interest free loan allows you to invest more money in total and create more wealth. Any time you have a chance to defer your taxes, take it. And the capital gains taxes are not the only items deferred because the tax on recaptured depreciation can be a major cost if not deferred.

The money that would have gone to pay taxes can instead be available for reinvestment.

To qualify for tax deferred exchange the relinquished property must be exchanged for replacement property that is of “like-kind”.  An example would be real estate investment for real estate investment.

Examples of other investment properties that are like kind:

Residential property for commercial property

Fee simple interest in a property for 30-year leasehold

Speculative raw land for income producing rental property

Pasture land for rental property

Single family rental for multi-family rental

Rental mountain cabin for an office-condo

Business and Investment Objectives for an Exchange:

Diversify investments from one large to several properties

Consolidate several small investments into one major investment

Financial strategy of moving from an appreciation potential investment to one that results in better cash flow.

Change of lifestyle, owner wants to retire, etc.

Relocation of your investment property to place it closer to you, etc.

Estate Planning- heirs may receive property at a stepped up basis.

A growing business may need a different type of space.

To avoid cost recovery recapture (depreciation)

Move from fully depreciated property to a higher value property that can be depreciated.

Exchange from property that cannot be refinanced to one that can. For example, changing from vacant land to improved property.

Move to properties that may be easier to sell in the coming years.

I work with experts in the 1031 tax deferred exchange area to help facilitate this part of a real estate transaction for you. Remember that the time limits for a tax free exchange must be STRICTLY adhered to or the exchange will fail and be subject to taxation. So you must plan a tax deferred exchange strategy from the beginning to have the best success. Thus, like so many things in life, it is the up front planning that makes all the difference.

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Colossians 3:23