One of the hardest things to do when you’re selling a property and aiming for a 1031 exchange is finding a reliable 1031 exchange qualified intermediary who can provide the services and guidance you need.
As it is, there is not a lot of people who specialize in this type of service and those who do may not offer all the 1031 exchanges that property investors need.
But what is a 1031 exchange in the first place?
A 1031 exchange is one way of deferring whatever tax liability a real estate investor has from selling an investment property. The proceeds from the sale may be used to acquire a like-kind property without paying anything.
It’s simply viewing such sales as not financially benefiting the investor, so no income tax should be collected.
So, if you’re eyeing a replacement property exchange as your way of avoiding tax liability, there are some things you must keep in mind to avoid violating applicable IRS rules:
You Must Have an Exchange Agreement
An exchange agreement is entered into by the real estate investor, the buyer, and an accommodator (also called exchange facilitator or intermediary) before the actual sale of the property in question.
The accommodator will hold the net proceeds of the property sale until such time that the investor has found a suitable replacement property of like kind.
You Must Nominate at Least Three Exchange Properties
IRS rules state that in order to qualify for a 1031 exchange, you have to state in writing at least three (3) properties that are worth the same or more than your relinquished property.
You can also exceed this number provided that their total value is not more than 200% of your relinquished property’s sale value.
The identified properties must have proper description including exact locations and legal information. You are also required to submit the list to your accommodator for record purposes.
Your Replacement Property Must Be Equal to or Greater Than the Price of Your Sold Property
In theory, you can sell a farm worth $1 million and buy a commercial building worth the same amount or greater. In this case, you won’t have to pay anything since you did not gain financially from such transactions.
However, if you sold your property (also called relinquished property) for a price higher than the acquisition price (or the price you originally paid for it), then you must pay what is called a capital gains tax.
Be Mindful of the 45-day and 180-day Rules
Those who are planning to get the 1031 exchange must remember that there are time limits that they have to deal with to be eligible for such exchange. First, you have up to 45 calendar days starting from the time you sold your property to submit a list of replacement properties.
Second, you have 180 calendar days from the moment you closed the sale of your relinquished property to purchase a replacement property (or more than one property). Failure to comply with these time limits would nullify your 1031 exchange benefits.
One way to get through this process is to hire an intermediary to facilitate everything, such as finding a suitable replacement property. Just make sure you’ll do a thorough background check before hiring anyone. Ask for previous transactions and look for reviews from past clients. Keep in mind these things and you’ll surely enjoy a hassle-free 1031 exchange experience.