1031 Exchange Rules for investors in 2019
If you’re the owner of an investment property and are thinking about selling, it’s important to understand that you will owe capital gains taxes on profits from the sale. The exception to that rule is known as a 1031 Exchange. This exception only applies to business or investment properties, not personal residences. Performing a 1031 Exchange allows you to effectively defer capital gains taxes until a future time. But you need to strictly follow the entire set of 1031 Exchange rules in order to qualify for the deferral.
The 1031 Exchange was enacted to allow real estate investors to move their investment capital from one property to another without paying capital gains taxes during the year the transaction is completed. For a 1031 Exchange to be applicable, the investor must use 100% of the profits from the sale of the original property to buy another property of equal kind and value within a specific time period after the sale.
The traditional 1031 Exchange referred to the practice whereby two owners “swap” or make a fair trade on property of similar value. This scenario is quite rare as you can imagine. The Delayed or Starker Exchange accounts for the vast majority of transactions. In this case, the investor places funds from the sale with a third party who holds the cash until such time as the investor directs them to buy the replacement property.
Also known as a “three party exchange”, you must follow a number of specific criteria to qualify for tax deferral. To name just a few: the two properties must be like-kind properties, they must be business or investment properties only, the market value and equity of the property purchased must be the same or more than the one sold, you can’t receive any “boot” or residual profit from the sale (unless you want to pull cash out and pay taxes on it), etc. Not complying with any one of the 1031 Exchange Rules can result in losing the ability to defer taxes.
Choosing a delayed exchange can be an excellent way for an individual or commercial real estate investor to defer their tax burden when they make changes to their investment properties. However, whether you’re doing a simultaneous or delayed exchange, it’s critical to be well-versed in the proper way to execute it.
Because the details can seem complicated to even the most experienced investor, you would be well-advised to enlist a commercial real estate accounting services to help. At GYL, we can guide you through the process with ease and ensure that your tax deferral status is solid. We’ll show you the way to get the most out of your investments as well as guarantee that any transfers of properties are done properly to avoid unnecessary tax obligations.