With the employment market taking so many hits in the past few years — from massive layoffs to loss of benefits and pensions — many regular folks are looking for other ways to start investing their money without a lot of risk. It may no longer be enough to rely on your 401k to take you comfortably into retirement.
It used to be that talking about a 1031 Exchange Property investment was talk that you only heard from realtors and financial advisors. But now, you are as likely to hear about it in an office lunch room or at a Mommy & Me meeting. People are interested in the type of investment that can save them money and taxes.
In simple terms, a 1031 exchange is the process of selling a business or property and immediately investing the proceeds into another property or business. This can allow you to avoid paying any capital gains taxes and save you a ton of cash.
Although it seems simple when spelled out, there are still a lot of rules and tax laws that govern this process. If you are thinking about this type of investment for the first time, it is best to talk to a professional and do your homework. Some of the more basic information points that you should know are outlined below.
Definition of “Like-Kind” Properties
When you are doing a 1031 exchange, the purpose is to upgrade from one investment property to another similar property. The term “like-kind” itself has a broad interpretation. For example, you can exchange a property for a business, a piece of land for a building, or a straight property for a property.
Designating a Replacement Property
Within a 45 day deadline, you must legally declare up to three options for the replacement of the property that you are selling. There can be one or more properties listed, however, the total value of the replacement properties must be equal to or greater than the value of the sold property.
Loans & Mortgages
While you are making the transactions, the loans or mortgages on both properties must be considered in the proceeds amount. Any cash that is received from the sale of your property is subject to capital gains taxes.
Not for Personal Use
Although the definition of the transaction is fairly flexible, it is generally not for personal use. The purchase of stocks or investment in a business partnership do not qualify for the exchange. However, if you are interested in buying a valuable painting, or perhaps a boat, those items may be considered as property.
Must Be Closed in 6 Months
Both the finalization of the sale of your business or property as well as the purchase of your replacement investment must be complete within 180 days. In most cases, this is not an issue. It is also advisable that the use of a qualified intermediary be used to handle the financial transactions. The investor may not touch the money that is set to be used for the replacement property, so it must be put into trust.