What is a 1030 Exchange?
Under 26 U.S.C.§1031 of the Internal Revenue Code, a person is allowed to exchange property held for productive use or investment so they do not get hit with capital gains tax. When property is sold for more than what it was purchased for, that additional money is called "capital gains." Capital gains tax can exceed 205 to 30% depending on the federal and state tax rates given in your state. In order to avoid getting hit with this substantial tax the Internal Revenue Service, allows a person to "exchange" like property. For example if X owned an investment piece of property in New Jersey that was purchased for $30,000.00 but was going to sell it for $100,000.00, X could face capital gains taxes on $70,000.00. However, if X decided to sell the property in New Jersey and buy another investment property with the proceeds, he would be able to defer the capital gains.
There are rules that must be followed for a 1031 Exchange to work properly. First, the properties must be of "like kind". Like kind means is that both properties must be held for a productive purpose in business or trade, as an investment. The proceeds from the sale of relinquished property, must to through the hands of a "qualified intermediary" ( they cannot go through your hands or the hands of your agent or the funds will immediately become taxable). The replacement property must be either the same value or more than the property that was relinquished. If it is not, a 1031 can still be done but you will have to pay taxes on the difference.
There are timelines that must be followed to complete a 1031 exchange. The party selling the property must identify the replacement property within 45 days from the date of sale of the relinquished property. There are no extensions for this and the timeline must be followed very closely. This is known as the "identification period". Although you only have 45 days to identify the property, you have 180 days to receive the replacement property from the date of sale of the relinquished property. This is know as the "exchange period"
All of the rules and timelines must be followed very closely and that is why it is very important to have an attorney assist you with the process. Koufos & Norgaard, LLC, can handle the real estate deal or be qualified intermediary to assist to get this process done so you can defer taxes.
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