If you own an investment property and are thinking of selling it to buy a different one (or two), you can do a 1031 Exchange and enjoy great benefits! What’s so great about it, and how do you do it?
Here’s how it works-
- With IRS code 1031, owners can defer paying all capital gains on investment property. This means that if you own property used for business or investment, you can sell it and use the proceeds from the sale to reinvest in another investment property of greater or equal value to avoid paying taxes.
- You have to declare that you are doing a 1031 Exchange before you close on the sale.
- You have to meet the 180-day rule: Investors have 180 calendar days to complete the exchange and close on all intended purchases.
- You have to meet the 45-day rule: Identify up to three possible replacement properties within the first 45 days of the 180 day period. You can also sell multiple properties and buy one big property. If you identify more than three properties, the total cost of the identified properties can’t be more than twice the value of what you are selling. If you identify more than three properties and they end up totaling more than 200 percent of what you are selling, then you have to buy 95 percent- worth of the properties you identified in order to complete the exchange. Your replacement property must cost more than the net sale price of your existing investment property.
- You Must use a Qualified Intermediary (QI) to facilitate the 1031 exchange. The QI takes care of everything for you including preparing the exchange agreement, handling escrow, and coordinating with the closing agents. The QI must be a third party to the transaction. He or she can’t just an attorney or Realtor in the transaction that puts the sale proceeds and funds in an escrow account, nor can the QI be a relative. These are IRS regulations.
And here are six amazing benefits of doing 1031 Exchanges-
- You enjoy huge savings on taxes.
- You can shelter your earnings in real estate, legally!
- You can diversify or consolidate your investment property.
- You can gain buying power by reinvesting.
- You can create more income to build your wealth.
- There’s no limit to the frequency or quantity of 1031 exchanges you can do.
Consider an “equity build strategy” suggested by the Midland company (referenced below) that looks like this:
- Defer paying up to 25 percent in taxes on your gains.
- Sell a moderately producing property to buy a higher income-producing property and increase your monthly income.
- Pay no federal, state, capital gain, or income taxes on the sale of the property.
- Do 1031 exchanges over and over for a lifetime, and the tax liability will never be passed on to your heirs.
- Base your strategy on cash flow, and you will have success in any market. The key is to get the highest percentage income on your purchase. Even if the dollar amount is small, it will grow over time. For example, if you can sell a property making seven percent cash-on-cash and buy a property that makes 23 percent cash-on-cash, you are well on your way to implementing an excellent equity build strategy!
It’s a good idea to use a QI that is local or that works in many states and is familiar with the varying regulations and taxes in different states. You want a QI that has experience and is bonded and insured. You also want to look for one that is a member of the National Federation of Exchange Accommodators and that is a Certified Exchange Specialist (CEC).
Here are some resources to get you started:
For help selling and locating properties, please reach out to yours truly!