1031 Tax-Deferred Exchanges
What is a 1031 Exchange?
A 1031 Exchange is a transaction in which a taxpayer is allowed to sell one property to buy another without recognizing, but instead deferring taxable income on the sale. This can be done through a simultaneous or delayed 1031 Exchange. The transaction is aptly named after the federal tax law allowing it, Section 1031 of the Internal Revenue Code. It is the best strategy for the deferral of capital gains and depreciation recapture tax that would ordinarily arise from the sale of highly appreciated real estate.
A successful exchange results in the taxpayer being able to utilize 100% of the proceeds from the sale of property to purchase a new property, thereby deferring capital gains and recapture tax on the relinquished property.
Real estate owners may accomplish several objectives by using a 1031 Exchange, including greater leverage, diversification by asset class and geographic location, improved cash flow, and/or property consolidation.
How does a 1031 Exchange work?
A 1031 Exchange is usually a three-way delayed exchange, referred to as a “Starker Exchange”, in which an intermediary is used to facilitate the transaction. There are four basic steps to the process:
1. Seller arranges for the sale of property and includes exchange language in the contract.
2. At closing, sales proceeds are directed to a Qualified Intermediary to be held for exchange purposes.
3. Seller identifies potential exchange properties within 45 days of the closing.
4. Seller completes 1031 Exchange within 180 days of closing on their relinquished property