Can You Take Money Out Of A 1031 Exchange?

If you’re willing to incur some tax, you may purchase less than your net sale under IRS Section 1031.

And, you may take cash out without jeopardizing the entirety of your 1031 exchange.

However, if you want to purchase less than what you sold or take some cash out, then the IRS will call that “booty” and tax it as profit. The IRS is willing to leave its tax in the game, but they are expecting you to leave your profit in the game as well. So, there’s no taking your “booty” and buying an island without paying at least some tax.

The IRS considers this taxable because their interpretation is that the first dollar you take out is going to be a dollar of profit.

What is a Reverse Exchange?

The statutory order of a 1031 is this: a sale followed by a purchase of investment real estate. You can’t exchange into something you already own, and you can’t exchange into construction on real estate you already own without a different approach.

In a reverse exchange, the qualified intermediary forms a holding entity called the EAT (exchange accommodating title holder). This EAT takes title to the lot you want to build on. The property is under your control, but you’re not on the title yet. Then you construct the building on that property. Now you complete your sale if you haven’t already, and you “purchase” the lot and building owned by the EAT for exactly what was paid/spent on it. By doing this, you are able to maintain the integrity of your exchange and also purchase the exact right replacement property.

Timing, complexity, financing, and cost are all the issues you’ve got to wade through. But reverses can be a pretty powerful tool to get you right where you want to be. Nonetheless, it might be worth talking to your tax expert about structuring a more straightforward 1031 exchange.