1031 Exchange – Investment Properties: 1031 Exchanges
1031 Exchange – Investment Properties: 1031 Exchanges
If you are selling an investment property and planning on re-investing then the 1031 exchange is right up your alley. A 1031 exchange is basically a tax shelter allowed by the IRS where you sell an investment property and then re-invest the profit from that sale into another property. Now, keep in mind that you [...]
Tenants in Common (TIC)
Tenants in common 1031 Exchange is a form of real estate asset ownership in which two or more persons have an undivided, fractional interest in the asset, where ownership shares are not required to be equal, and where ownership interests can be inherited. Each co-owner receives an individual deed at closing for his or her undivided percentage interest in the entire property. In brief, a TIC owner has the same rights and benefits as a single owner of property.
Although the TIC ownership form has been used for many years, its popularity has been increasing dramatically due to a recent IRS ruling. Exchangers often have difficulty in locating and closing suitable replacement property within the 45 day identification period and the 180 day closing period. 1031 TIC exchanges can significantly reduce these risks.
The Mechanics of a 1031 Tenants in Common Exchange
Investors have long used 1031 exchanges to defer taxes, while swapping old properties for newer properties. The reasons for swapping real estate vary greatly. In today's market, finding real estate values can be a challenge and individual investors have been somewhat limited to residential properties and small commercial structures.
An IRS ruling in 2002 greatly expanded the pool of available properties, particularly for individual investors. The ruling pertains to joint tenant in common (TIC) legal structures or co-owned real estate (CORE), which allows individuals to own a fractional interest in a property, such as an office building, apartment complex or shopping center. While tenant in common investment ownership has been around for some time, the 2002 ruling allowed investors to feel confident that the IRS would allow the tenant in common structure for 1031 TIC exchanges, and this has ignited a cottage industry.
The ruling, coupled with an increased interest in 1031 TIC properties, has led to a rapid growth in tenants in common and CORE investments. A 1031 TIC structure will allow investors to pool their resources and purchase larger, higher valued and better positioned properties than they might otherwise have access. Typically these more prestigious properties can also open doors to high quality lessees, such as Fortune 500 companies and government entities, reducing owner tenant risk. Real estate firms (Sponsors) organize the properties with professional management, removing day-to-day owner concerns.
TIC 1031 tenant in common exchanges are typically handled through broker-dealers and are under the oversight of the Securities and Exchange Commission (SEC). While there are 1031 TIC sales occurring outside of the SEC supervision, currently there is some controversy over these properties, and there may be a movement by the SEC to pull these properties under their regulatory umbrella.
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1031 Timelines
Identification Period: Within 45 days of selling the relinquished property you must identify suitable replacement properties. This 45 day rule is very strict and is not extended should the 45th day fall on a Saturday, Sunday, or legal holiday.Exchange Period: The replacement property must be received by the taxpayer within the "exchange period," which ends within the earlier of . . . 180 days after the date on which the taxpayer transfers the property relinquished, or . . . the due date for the taxpayer tax return for the taxable year in which the transfer of the relinquished property occurs. This 180-day rule is very strict and is not extended if the 180th day should happen to fall on a Saturday, Sunday or legal holiday.
If you are considering a 1031 exchange please visit http://www.1031-nnn-properties.com/ for more in depth information on 1031 exchanges or to speak with an investment specialist about acquiring triple-net properties.
Hiring a Real Estate Attorney
Hiring a real estate attorney is the most important thing to do before becoming involved in real estate investing. Always use an attorney when getting started in such business like this. The right one will keep you on tract and help lessen your liability in your real estate investments. Make sure you check first his/her personal background and credibility too. You should ask the court house to review their cases in which those attorneys have been involved and most importantly whether they won or lost their cases.
If you are going to hire an attorney make sure he is a winner or at least won the majority of time.
Steps on how to get a good attorney:
- Talk to friends, family members and co-workers, or your state's Bar Association for
referrals.
- Talk to local real estate brokers for referrals.
- Call a local realtors association for referrals.
- Consult the yellow pages under Attorney: Real Estate.
- Prepare a list of questions pertaining to your situation. Most lawyers will answer simple
questions over the phone for free.
- Identify a number of possible attorneys and call each one.
- Ask how much each lawyer charges per hour, and request an estimate of the time
required to complete the tasks you require – looking over contracts, handling
disclosures, and helping with the closing.
- Choose an attorney.
There are several questions need to be answered by an attorney before hiring them.
What experience do you have in creative real estate investing such as subject to investing?
The Attorney should be open to and understand creative real estate investing. He must be very attentive to your needs; he lets you discuss your method of investing then responds in a forthright manner.
How much of your practice is in real estate?
It should be at least 30% to 50%. In smaller markets there would be less need for an attorney to devote all their practice to real estate.
Do you have other real estate investors as clients?
If so, ask if you can contact them for references.
What are your fees?
The price the attorney charges are not as important as how well he works for you, with you and gets the job done. The old proverb you get what you pay for applies here.
As I have said, when you are planning to be a real estate investor, it would be better if you consult with an attorney in your place or see if any of the attorneys who post on this board can prepare the proper paperwork you will need.
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1031 Exchange: Why should you consider one?
Defer paying capital gains taxes.
Leverage.
A properly structured exchange can provide real estate investors with the opportunity to defer all of their capital gains taxes. By exchanging, the investor essentially receives an interest-free, no-term loan from the government.
Relief from property management. The lessee takes the responsibility to sublet and maintain the property allowing real estate buyers to avoid most of the day-to-day management headaches.
Upgrade or consolidate property.
Diversify. Own multiple properties rather than just one.
Relocation to a new area.
Differences in regional growth or income potential.
Change property types among residential, commercial, retail, etc.
If you are considering a 1031 exchange please visit http://www.1031-nnn-properties.com/ for more in depth information on 1031 exchanges or to speak with an investment specialist about acquiring triple-net properties.
1031 Exchange ? Boot
The term ?boot? refers to any non-like-kind property that is exchanged. The general rule is that if you receive more boot than you give up, you will have to pay tax on the net amount of boot you received.
The two most common types of boot:
Cash boot
In a traditional 1031 exchange, it is difficult to find two properties that are of exact equal value. So to make amends for, one party gives cash (boot) to the other to make up the difference. However, in a deferred exchange, since you are selling your property first and must reinvest all of the sale proceeds in the replacement property to fully defer the capital gains tax, you will generally not be receiving any cash boot. However, any portion of your sale proceeds that you do not reinvest in the replacement property will be considered cash boot to you and you will have to pay tax on that amount.
Mortgage boot
Mortgage boot is very common with 1031 exchanges. If the property you are selling has a mortgage on it, the relief of the mortgage will be considered boot to you. So to make sure you do not pay taxes on that boot, you must either have a bigger mortgage on your replacement property than you did on your relinquished property or you must invest your own money in the new property to make up the difference in the purchase price.
The formula for determining boot received is as follows:
- Mortgage on your property surrendered –
- Mortgage on the property received –
- Additional cash paid by you towards the new property (Note: This does not include the money invested in the new property from the sale of your old property)
- = Net boot received (Not less than zero)
- = Boot received You will have a taxable gain to the extent of the boot received. The important thing to note here is that you will be taxed on any cash boot received regardless of how much other boot you paid.
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About the Author:
Jeff Peterson (AKA: "Professor 1031") is a Qualified Intermediary and Serves as an Adjunct-Professor for the William Mitchell College of Law (Where He Teaches About Federal Income Tax). Jeff Works With People From All Over the USA to Save Money on Federal Capital Gains Taxes.
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