Aside from the obvious benefits of having year-round sunshine and beach access, Florida also has the benefit of being a very tax-friendly state. With no income tax and waterfront views at a lower price, it is easy to see why New Yorkers are fleeing the frozen north. According to Businessinsider.com, millionaires from New York can save more than one million in taxes by relocating to Florida. In fact, mansion sales are on the rise in Florida. Florida has certainly come out quite nicely as a result of the recent tax cuts.
Think tax-deferred 1031 Exchanges of real estate are too new, sketchy or scary to try? Every week, I talk to investors just like you who are surprised to learn that:
- 1. 1031 Exchanges have been around longer than IRAs and 401(k)s;
- 2. 1031 Exchanges are 100% legal; and,
- 3. 1031 Exchanges can be completed by novice investors.
Here are some myths I confront every day:
Myth #1: 1031 Exchanges Are Too New To Be Trusted
In 1921, Congress enacted The Revenue Act which authorized the exchange of like-kind property without paying tax. It was added to the Internal Revenue Code (IRC) Section 1031 and “1031 Exchanges” were born.
These transactions were originally used by cash-poor farmers to allow for the “exchange” of investment real estate without paying tax on the gain. In the intervening 98 years, IRC 1031 rules and regulations have evolved to serve today’s real estate investors. As we approach the 100th anniversary of 1031 Exchanges, the myth of their novelty should be retired.
Myth #2: 1031 Exchanges Are Sketchy
1031 Exchanges are not a “tax loophole”. Like your 401k or IRA, the tax deferral benefits of a 1031 Exchange are government endorsed and sponsored. As times have changed, the ways in which 1031 Exchanges can be successfully conducted have been both clarified and refined. Your 1031 Exchange qualified intermediary can guide you through the specific steps of this legal transaction.
Myth #3: 1031 Exchanges Are Scary
Most investors I talk to tend to be annoyed by the restrictions imposed on their IRA or 401(k) rather than fearful of the tax-deferred retirement provisions in the law. Same with 1031 Exchanges – there are specific rules and regulations. Some of these are maddening and some of them are pesky, but millions of investors have navigated them successfully. If you have never completed a 1031 Exchange, don’t be put off or intimidated by unfamiliarity.
In the course of your real estate investing career, you may find yourself selling your appreciated or depreciated investment real estate and purchasing replacement investment real estate. Why not keep your taxes working for you in that transaction? Follow the 1031 Exchange rules and regulations and you can indefinitely defer payment of the tax that would normally be due on sale and grow your portfolio using Uncle Sam’s money. Its time tested, legal and entirely within your capabilities.
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The IRS statute requires that you use a qualified intermediary (QI) to perform your 1031 exchange. While it is possible for an attorney to provide this service, it doesn’t have to be an attorney and it can’t be an attorney you have utilized for any other matters. This is because the IRS statute also requires […]
Tenants In Common (TIC) is a wonderful little arrangement wherein multiple owners each have a deeded interest in a property. That interest is a percentage or portion of the property. But can investors who hold an investment as Tenant in Common still take advantage of a tax deferred 1031 Exchange?
Long answer short: YES! When you sell your TIC, you can each decide what you want to do with your slice of the pie.
- You can stay together as one 1031 Exchange or
- You can 1031 Exchange your portion while the other(s) to take cash or
- You can each do a 1031 Exchange into separate properties with your portion.
You’ve got great flexibility in how you transition out of a property held as tenants in common. Because each situation and investor has unique circumstances, always consult with your financial adviser before proceeding.
Using a 1031 Exchange to grow your real estate portfolio faster using Uncle Sam’s money is a strategy that has helped millions of investors.
But of all the things you need to know about a 1031 Exchange, the most important thing is that it must be in place BEFORE you sell your investment real estate. The moment you receive your sale proceeds, it’s TOO LATE and you will have to pay the tax. Many investors new to this tax deferral method have discovered this after their sale and paid for it – literally.
The great news is that even if you are closing tomorrow or don’t know when you will close, it is quick and easy to start your exchange. Once you know what title company will be handling the transaction, the exchange can be initiated on your behalf by your Qualified Intermediary (QI).
Initiating your exchange with a QI prior to your sale is a rule that is a critical thing to keep in mind as you continue to learn about 1031 exchanges. I hope you will use the free online resources here at www.the1031investor.com as you explore this option.
Refinancing before and after a 1031 exchange are viewed differently by the IRS. Refinancing immediately before a 1031 starts is a good way to get heartburn from the IRS. The IRS has an extreme dislike for refinancing before an exchange. Refinancing after a 1031 is a different story. In a refi after a 1031 you are not accessing gain, you are borrowing against equity in a property you are holding for productive use. Which is the whole point of a 1031.
A short disclaimer though. If the IRS thought you were a bad actor and wanted to get at you anyway, could they challenge a refi done immediately after a 1031? Sure, but those instances are hard to prove and rare. Have your ducks and rationales in a row and wait until after the 1031 is complete. And always talk to your tax professional.
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.
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