A 1031 Tax Deferred Exchange is a way to defer paying capital gains tax on the sale of investment property by purchasing another investment or "like kind" property. This can be a great way of growing or diversifying your investment property while deferring capital gains in the process.
There are a few important rules to follow if considering completing a 1031 Exchange:
1. The property you sell and the property you buy must be "like kind". Examples of this would be a rental property, apartment building, office building, etc. Basically if it's property held for investment purposes, it may qualify as "like kind".
2. Funds cannot be touched. You'll need a Qualified Intermediary (QI) to be involved from the get-go. A QI will receive seller proceeds on your behalf, and then route your proceeds to fund your purchase once you've found your next investment. They'll also draft the necessary exchange agreement needed for your exchange.
3. In order to defer all tax, the property that you purchase must be equal to or greater in value, equity, and debt (though debt can be replaced with cash) than the property you sell. If you buy down, you'll incur "boot" which will be taxable.
4. 45 Day Identification Rule. You'll have 45 days from the closing of the property you sell to identify your replacement property. You'll complete this identification paperwork in writing. Typically you'll identify up to 3 replacement properties, and you'll want to close on at least one of the three properties you identify. (There are other ways to identify property, but the 3 property rule is the most common method.) You also have 180 days from the closing date of the property you sold, to close on the replacement property.
5. Talk to your CPA. Before you list your home for sale, figure out your tax consequences and see if an exchange is worth it.
1031 Tax Deferred Exchanges are a great investment tool. There's just a few key things to abide by to ensure a successful transaction!
Questions? For more info, call Shaila at 808-741-7155 or email shaila@hawaiihe.com. Hawaii Homes & Estates LLC. License No: RB-20456.
