What Is a 1031 Tax-Deferred Exchange?
March 18, 2019What is a 1031 tax-deferred exchange. This is a term you may hear if you are starting to deal with real estate transactions. In simple terms, a 1031 tax-deferred exchange is a means by which one investment property may be sold (exchanged) for another and the resulting taxes can be deferred. How does this benefit the seller and what are the specifics of being able to take advantage of a tax-deferred exchange?
IRS code 1031 reads in part, "No gain or loss shall be recognized on the exchange of real property held for productive use in a trade or business or for investment if such real property is exchanged solely for real property of like kind which is to be held either for productive use in a trade or business or for investment."
This means that the IRS recognizes no financial gain or financial loss on a property sold when the proceeds are used to purchase another similar property for the same purpose, as an investment property.
What does the term "like kind" mean in reference to the property?The term is not defined within the code itself. IRC Section 1031 doesn't limit "like-kind" property to certain types of real estate. Any real property can be considered like kind if it is held for productive purposes, business, or investment purposes, therefore purpose is more important than the quality of the property. Real property is considered to be of like kind whether or not the property is improved or unimproved. Specific examples of property not eligible for 1031 include a primary and secondary residences. A primary or secondary residence are not considered like kind and don't qualify for 1031, but may be eligible for tax exclusion under IRC Section 121. This is something you might want to check with real estate tax experts because some restrictions apply. Also, property held on to mainly for resale purposes and dealer properties are not eligible for tax deferral under IRC Section 1031.
There is a range of properties eligible for 1031 tax-deferred exchange. Any real estate being held for "productive" purpose, as mentioned above, in a trade, for business, or for investment, improved or unimproved, is eligible. Some examples of these types of properties include vacant land, rental property, retail property, storage unit property, industrial property, office buildings, hotels, restaurants, daycares, assisted living facilities, resorts, etc. As you can see, eligibility for 1031 tax deferment is extensive and includes commercial properties and any other property that maintains productivity.
In the past, prior to 1989, sellers were able to use the 1031 tax deferred exchange outside the U.S. This is no longer the case. Real property in the U.S. can only be exchanged for real property in the U.S. The same applies to real property in another country being exchanged for property in the U.S. This does not apply to real property exchanged within the U.S. from one state to another. Property can be exchanged from state to state and be eligible for the 10310 tax deferment.
An exchange of one property for multiple properties is allowed. An exchanger may exchange one property for multiple properties of equal value as long as those properties are to be held for the purpose of investment or otherwise meet the criteria for 1031 tax deferred eligibility.
There are some time restraints on 1031 eligibility that must be met. The investor, also known as exchanger, has a 45/180-day guideline for the exchange. What does this mean? Once a property has been sold, the investor has 45 days to find property of equal or greater value to the property sold. Once the desired property has been found, the exchanger has 180 days from day their property was sold to purchase the new property, thus the 45/180 day guideline in place for the qualification of the 1031 exchange.
Can personal property ever be eligible for a 1031 tax deferment exchange? Yes, it can, but there are stricter guidelines than with real property. Personal property qualifying for the 1031 exchange has to be held for productive use in trade, business, for investment as mentioned earlier. The main difference is that qualifying properties have to be in the same general asset class or the same product class. This means that the properties need to be in the same class as one another or the product of the property needs to be the same. The Standard Industrial Classification Manual provides categories for General Asset Classes.
The 1031 tax-deferred exchange is straightforward and used often. There are many pros and cons to consider before deciding on whether or not to use this option. The biggest plus to getting a 1031 tax deferment, of course, is the cash flow it creates. When you defer taxes, you will have more money at your disposal to invest. More money gives you the ability to acquire a property or properties that may have a higher investment benefit than the property sold. Many people, however, avoid taking advantage of the 1031 deferment because there are too many IRS rules and regulations that they have trouble meeting. Another important con of the 1031 to consider is that any losses cannot be recognized. Just as taxes are deferred, any losses you incur are also deferred. If you've had a really profitable year, not being able to claim your losses to offset that gain might not be a good idea. This is why going over all of your options with a qualified financial or real estate advisor is a good idea.
At Key Title & Escrow, we can help you better understand the 1031 tax-deferred exchange and how to make it work to your benefit. With over 23 years in the business, we have developed a solid reputation as leaders in the real estate closing industry. We offer a full range of title and escrow services, property title searches, judgment and lien searches, Florida title insurance, record owner searches, and residential title services. We also offer extensive 1031 tax-deferred exchange services. With our many years in the real estate business, we have the experience you depend on to make all your real estate closings and transactions go as trouble free as possible.
At Key Title & Escrow, our first and most important mission is to provide you with exceptional customer service and professional real estate services. We pride ourselves on being a big enough company to handle anything that comes up during the sale and purchase process but small enough to provide you with the personal hands-on service you deserve.
Key Title & Escrow is the leading title and escrow company in Florida. No matter where you are in Florida, we offer statewide closings and can attend to your needs. Your best interest is the cornerstone of all we do. When you've got questions about a 1031 tax deferred exchange or you're looking for closing and escrow services, contact Key Title & Escrow. Let us show you how our closing services are the best real estate closing services in the state of Florida.
If you're buying or selling real estate, the Key Title & Escrow can help clearly explain the ins and outs of the Florida 1031 exchange. We want you to have the facts. Call us today at (305) 235-4571 for a consultation with one of our trained Florida capital gains law real estate experts.
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