Ruth Mills Team
San Diego Realtor
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More Frequently Asked Questions
Real Estate 101
What is a 1031 Tax Deferred Exchange?
To an investor in real estate it is important to preserve wealth and assets. In the frequently changing world of taxation, the investor is fortunate to have IRC Section 1031. This tax code allows the investor to sell one or more investment properties and to buy one or more investment properties and to defer taxes on the gain. This means that a 1031 Exchange is a rollover of equity of "like" properties, rather than an avoidance of tax. Thus the investor continues to build wealth through real estate investment, and maintains the hard earned equity.
1031 Exchange Rules
- A "like" property means when an investment property is sold another investment property needs to be purchased, but it is not limited to the same, as example; a rental duplex can be sold to buy a commercial building, or investment vacant land can be sold to buy an apartment building
- Taxpayer finds a buyer and sells the property through a Qualified Intermediary
- Taxpayer buys a replacement property through the Qualified Intermediary
- The exchange period begins on the day the relinquished property is closed and ends in 180 days from the close of sale. The replacement property is to be identified within 45 days of the close of escrow of the relinquished property
- The taxpayer's agent, broker, attorney, accountant or family member is excluded as a Qualified Intermediary
- Identification Period: Begins on the date the taxpayer transfers (closes) the sale of relinquished Property and ends at midnight on the 45th day thereafter
- Exchanger Period: Begins on the date the taxpayer transfers (closes) the sale of the Relinquished Property and ends on the earlier of midnight on the 180th day thereafter Or midnight on the due date (including extensions) for the taxpayer's income tax return for the taxable year in which the transfer (sale) of the Relinquished Property occurs
- If several Relinquished Properties are to go "into one Exchange", the Identification Period and Exchange Period are determined by the closing date of the FIRST Relinquished Property
- The Identification Period and Exchange Period are NOT extended to the next succeeding date if the last day falls on a Saturday, Sunday, or legal Holiday
- Property is treated as closed when "legal title" is transferred. "Closing" in some States is not necessarily "recording of the deed"
- Rules To Identify Replacement Property: The general rule for Replacement Property is the sale price is equal to or greater than relinquished property
IRS Identification Rules
- Three Property Rule: The Exchanger may identify three (3) properties of any value.
- 200% Rule: The exchanger may identify any number of properties if the total fair market value of what is identified does not exceed 200% of the sale price of the relinquished property.
- 95% Rule: If the Exchanger identifies more properties than are permitted under the two rules above, the Exchanger must acquire 95% of what was identified.
- The Identification must be made to a party to the exchange (i.e., the Qualified Intermediary)
- Identification must be in writing and signed by the Exchanger.
- The Identification must include street address or legal description.
- It must be delivered within 45 days of the close of the Relinquished Property.
Please Note: When pursuing a 1031 Exchange, the intent language should be in the Real Estate Contract and Escrow Instructions/Purchase Contract. However a sale can be converted into an Exchange by the creation of an amendment to the Escrow Instructions/Purchase Contract.
This information is provided as a service. As every situation varies, it is strongly advised to seek counsel from independent tax advisors, tax attorneys, and/or CPAs.