1031 Tax Deferred Exchanges

WHAT IS A 1031 TAX DEFERRED EXCHANGE?

Section 1031 of the Internal Revenue Code offers the real estate investor a remarkable opportunity to sell one parcel of real estate and use the entire proceeds to acquire replacement real estate, without paying taxes on any gain from the sale.  By careful planning and strict adherence to the safe-harbor provisions of the IRS regulations, investors can protect the full value of their appreciation and equity, expand their holdings of investment property and defer payment of tax on capital gains indefinitely.

Section 1031 of the Internal Revenue Code states:  "No gain or loss shall be recognized on the exchange of property held...for investment, if such property is exchanged solely for property of like-kind which is held...for investment."

Safe-Harbor Requirements of Section 1031:

1.  Replacement property must be properly identified within 45 days of closing on relinquished property.
2.  Replacement property must be acquired within 180 days of closing on relinquished property.
3.  Aggregate replacement property must be equal to, or greater in value than, the relinquished property.
4.  Debt on the replacement property must be equal to, or greater than, debt on the relinquished property.

WHAT DO I NEED TO KNOW ABOUT 1031 TAX DEFERRED EXCHANGES?

What kind of property qualifies for a 1031 exchange?  Any type of investment real estate may be exchanged for any other type of real estate, provided the replacement real estate is likewise held for investment, and not immediately used by the investor as a personal residence.

Can I complete a tax deferred exchange by myself somehow segregating the proceeds from the sale of my relinquished property and then using those funds to acquire a replacement property?  No, actual or constructive receipt by the investor of all or any portion of the proceeds of sale of relinquished property will defeat the tax deferred exchange and require the investor to pay tax on any gain realized.

How can I avoid constructive receipt of the proceeds of sale of the relinquished property so that i can complete a tax deferred exchange?  Through the use of a qualified intermediary, such as KENTUCKY TITLE EXCHANGE, an accommodation party who is not a disqualified person or entity pursuant to IRS regulations, the investor can avoid being deemed to be in actual or constructive receipt of the sale proceeds pending acquisition of the replacement property.

Can I exchange more than one replacement property?  Yes, and in many tax deferred exchange transactions, the investor will leverage the exchange proceeds to acquire more or higher quality properties than what the investor started with.

Can I acquire a vacation or second home in a tax deferred exchange?  No, both the relinquished and replacement properties must be property "held for investment."  Property that is the residence of the investor will not qualify under the IRS regulations.  Nevertheless, a residential property acquired in a vacation area may qualify as long as that property is not used for a period of time after the acquisition as the residence of the investor, but held for investment, such as rental.

How do I identify replacement property in a tax deferred exchange?  Replacement property must be identified in writing to KENTUCKY TITLE EXCHANGE, within the appropriate time period.  The investor may identify up to 3 properties, regardless of value, OR any number of properties, so long as their total value does not exceed 200% of the value of the relinquished property, OR any number of properties of any value, so long as the investor acquires at least 95% of the identified properties in the exchange.

Can I change my mind and not complete the exchange?  Yes, an investor can change his or her mind at any time prior to the completion of the exchange and the sale of the relinquished property will become a taxable transaction.  Any exchange proceeds held by KENTUCKY TITLE EXCHANGE, will be returned to the investor, subject only to compliance with restrictions in the IRS regulations concerning timing for the return of funds not used to acquire replacement property.

How much does a 1031 tax deferred exchange cost?  The costs to set up a tax deferred exchange are minimal.  KENTUCKY TITLE EXCHANGE charges fixed rate fees that are competitive with the lowest fees charged by qualified intermediaries across the country.


If you are interested in a 1031 tax deferred exchange and have any more questions you may contact KENTUCKY TITLE EXCHANGE at (502) 895-9900 or by e-mail at tarac@pittandfrank.com.