1031 Exchange

When selling real estate, most people hope to make a return on their initial investment either by appreciation over time or by depreciation taken.  This "gain" will be reflected on your tax return and means taxes will be due. Section 1031 of the Internal Revenue Code offers remedy to paying those taxes.

Section 1031 states: No gain or loss shall be recognized on the exchange of property held for productive use in a trade or business or for investment if such property is exchanged solely for property of like kind which is to be held either for productive use in a trade or business or the investment.

When purchasing secondary or vacation homes, many people do so keeping in mind this particular section of the tax code, most commonly called a 1031 Exchange.  Under this tax code, the taxes due are deferred will be paid at the point in time when the property is ultimately sold and is not part of another exchange.  This allows one to invest more money into the property being purchased. 

This like-type exchange is not limited to secondary and vacation homes and do not necessarily take place at the same time.  Other possible exchanges are from raw land to rental properties or the possibly consolidating multiple properties to a single property or reverse, large single property into smaller properties.  The most common exchanges take place as a "delayed exchange" (where the properties are sold and bought within the time constraints in the code), a "simultaneous exchange" (where the sale takes place on the same date and time as the purchase), and a "reverse exchange" (where the purchase takes places first, then the relinquished property is sold).

 Important things to remember when implementing a 1031 Exchange:   

• Both your properties must qualify as 1031 property.
• You have 45 days after the closing to prepare a list of properties you want to buy
• You have 180 days after the closing to acquire one or more of the properties on your 45-day list.
• You may not touch the money. Typically the money is held by a Qualified Intermediary who must be used to facilitate the transaction to meet the IRS requirements for an exchange.
• The holder of title to both properties must be identical.
• The exchange is tax is "deferred" not "tax-free" and taxes will be due at some time in the future.