Fundamentally, a 1031 exchange is a tax deference strategy. Other benefits can include advantageously trading into a more desirable property or exiting a partnership that is no longer desirable. 1031 exchanges allow owners to defer the capital gains taxes associated with the sale of property. For example, if an investor purchases a building for $30 million and later sells it for $50 million, that investor can defer paying taxes on the $20 million capital gain if he/she enters into a 1031 exchange.
To complete an exchange, an investor uses proceeds from Relinquished Property as the medium for the transaction. Relinquished Property is property sold by a taxpayer in a 1031 exchange, commonly refered to as the Phase 1 or Downleg. The total debt and equity of the Replacement Property must be equal to or exceed the total debt and equity of the relinquished property. Replacement Property is property being purchased by the taxpayer in a 1031 exchange, also known as the Phase 2 or Upleg. The key benefit of an exchange is that the investor is permitted to defer the significant capital gains tax payments that would accompany a conventional sale.
All 1031 exchanges revolve around two crucial deadlines. Within 45 days of closing on Relinquished Property, a 1031 investor must research and submit a list of possible replacement properties with a qualified intermediary (QI)- a firm certified to act as the closing agent for 1031 exchanges. This 45-day period is known as Idententification Period, or ID Period. The second deadline occurs 180 days after the sale of Relinquished Property. This 180-day period is commonly refered to as the Exchange Period or EP. At that time, the exchanger must close on a Replacement Property, using debt and equity equal to or greater than the debt and equity of the Relinquished Property. If either deadline is missed, the investor will need to pay taxes to the IRS.
In light of the deadlines that can complicate exchanges and the stringencies thereof, a professional community of 1031 advisors and consultants has emerged over the years. These advisors include qualified intermediaries (QIs), real estate brokers, net-leasing firms that help exchangers locate replacement properties, and accountants and attorneys that provide specialized tax advice related to 1031 transactions. The larger and more complex the 1031 transaction, the more important comprehensive expertise becomes.
Thomas Company has worked extensively with 1031 exchange buyers for over 20 years and is well-versed in the intricacies of these types of transactions. For additional information, please contact us at firstname.lastname@example.org, or fill out the form below and we’ll be in touch.