The 1031 Tax-Deferred Exchange
- An exchange can be an attractive way for investors to save capital gains tax.
- Exchanged properties must be of similar kind, such as residential income property or professional buildings. A personal residence does not qualify. However for more information about what tax exemptions you have on your personal home, read more about the IRC 121 Tax Exemption.
- A Qualified Intermediary will enter into an agreement with you, the taxpayer, to act on your behalf in the transfer of proper-ties and the management of proceeds.
- Obtain competent tax advise and select an experienced Qualified Intermediary to ensure that your transaction is managed properly.
A Primer for Investors
If you are the seller of investment property, you may find that exchanging your property under the rules of Section 1031 of the Internal Revenue Code is an attractive way to postpone the payment of capital gains tax.
What is an Exchange?
In a typical sale transaction, you are taxed on the amount of gain (profit) received from the sale of the property. e IRS provides an exception to that general rule, allowing you to defer payment until you actually complete a traditional sale of the property.
Here is a brief description of how an exchange works:
- Seller (Taxpayer) exchanges Property A (Relinquished Property) for Property B (Replacement Property)
- The sale proceeds from A are used to pay for the purchase of B.
- The services of a “Qualified Intermediary” (also known as a “Q.I.” or an “Accommodator”) are used to transfer properties and funds, rather than the Seller doing so directly
- The use of a Q.I. is an important part of an exchange. e Q.I. will enter into an agreement with you, the taxpayer, to act on your behalf in the transfer of the properties, including the management of the proceeds from the Relinquished (sold) Property.
- The exchanged properties must be “like kind” in order to qualify as an exchange.
What property qualifies as “like kind”?
As the taxpayer, your use of the property, rather than the type of property, determines your ability to qualify for an exchange under IRS rules. Any property held for investment or for the taxpayer’s productive use in trade or business can qualify for 1031 treatment. Examples of qualifying property include residential income property, industrial property, shopping centers, professional buildings, and vacant land. Property held for personal use, including your residence, does not qualify.
Your purchase contract and escrow instructions for both the relinquished property and the replacement property must state that your properties are intended to be part of a 1031 exchange. In the case of an IRS audit, your statement of this intent is one of the first items subject to review.
Select an experienced “Qualified Intermediary” to ensure that your transaction is managed properly. Your escrow officer may suggest the name of a reputable intermediary. Working with you and your tax advisor, the Q.I. will help ensure that your exchange meets the requirements of the IRS.
Within 45 days of the closing of the Relinquished Property, you must provide your Q.I. with a letter in which you identify the Replacement Property or properties.
You will have 180 days from the closing of the Relinquished Property to complete the exchange by closing escrow on the Replacement Property.
Consult with your tax advisor or accountant. Be sure you understand the tax consequences of the exchange, including those which might result if the exchange is disallowed by the Internal Revenue Service.
Can you do a 1031 exchanges to the islands?
Bill suggested that I contact another 1031 exchange company, Exeter 1031, who he said had done some exchanges to the islands.
Bill McCloskey, President
Allison-McCloskey Escrow Company
Bill Jay Exchange Corporation
4820 El Cajon Blvd.
San Diego, CA 92115
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