By Lonnie White
The 1031 Exchange is a tax code process which enables you to defer paying taxes on capital gains. This deferment is contingent upon the reinvestment of proceeds from one investment property into another similar investment. IRS Section 1031 has a multitude of components which individuals should be aware of prior to utilizing. Whether you're a real estate investor, Realtor, or manager at the local deli, understanding the ins and outs of the 1031 exchange process can serve to be extremely beneficial. In this article, we'll provide you with some detailed information highlighting IRS Section 1031.
KEY POINTS
A 1031 exchange is a trade off of properties which are held for business or investment purposes.
A 1031 exchange can only occur with properties identified as similar from the perspective of the IRS. This is a qualifying criteria for capital gains taxes to be deferred.
If utilized correctly and effectively, there is no limit restricting the use of 1031 exchanges.
Under certain circumstances, the 1031 exchange rules can apply to a former primary residence.
In order to qualify for a 1031 exchange, both properties are required to be in the U.S.
SECTION 1031 EXPLAINED
A 1031 exchange is the trading or swap of one investment property for another. Although most exchanges are taxable as sales, if your exchange meets the requirements of 1031, you'll either have no tax or limited tax due upon time of the exchange. In actuality, you can change the form of your investment without physically cashing out or acknowledging a capital gain on your property. This enables you to continually grow your investment while simultaneously deferring your taxes. The IRS places no limit on the amount of times a 1031 can be performed. You can rollover the gains from one real estate investment an infinite amount of times. Despite having a profit on each swap, the tax is avoided until a transaction for cash occurs at a later date. In effect, an individual who executes the 1031 strategy correctly will only pay one tax; this tax being at a long-term capital gains rate.
Most exchanges are required to be "similar"—an expression which seemingly carries no true weight. An individual can literally exchange an apartment building for acres of raw land, or a farm for a commercial plaza. The rules stipulating the 1031 exchange are by far pretty liberal. Despite the 1031's flexibility, there are rules that need to be adhered to.
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