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1031 exchanges can be profitable for investors

The Internal Revenue Service provides a special provision for real estate investors called Internal Revenue Code 1031 exchanges. These exchanges allow an investor to sell one investment property and purchase another one and to defer the taxes into the next property.

These 1031 exchanges are very popular when there is significant equity in the property to be sold and with large gains that can be deferred.

The ramifications of this are extensive. Instead of paying capital gains taxes each time an investment property sells, a person has the freedom to defer the capital gains taxes and allow growth on the investment.

Investment properties can be exchanged from one into the next throughout a person’s life. When investors understand the benefits within the IRS tax code, they may more strategically invest in real estate and minimize the amounts of taxes paid.

As the real estate market continues to rebound after the recent difficult years, we are once again seeing 1031 exchanges utilized more often.

Recently, we represented clients who sold a commercial property in California and replaced it with a number of residential homes in Durango. These investment homes will provide their income for retirement, and they were able to fully utilize their 1031 exchange and defer the taxes into the residential properties.

Under the 1031 provision, the IRS allows a person to defer taxes when a property is sold and another in “like kind” is purchased. Generally, real estate transactions will be “like kind” to one another. Commercial properties can be exchanged into residential, or it could have been exchanged into vacant land. A few caveats exist; for example, a property within the United States is not “like kind” to a property outside the United States.

A neutral third party, called a qualified intermediary, facilitates the transfer of the exchanges. We have utilized Cooney & Associates locally, and Tim Cooney is an expert on 1031 exchanges.

There are many choices for qualified intermediaries, and a person should investigate the knowledge and experience before making a commitment.

In order to apply section 1031, an investor must identify the new property within 45 days of the sale of the original property, and their qualified intermediary can help them with the rules on numbers of designated properties.

The transaction must be completed within 180 days of the sale (or the tax return deadline of the year the relinquished property was sold, whichever is first). Additionally, the new property must be of equal or greater value than the current property to have full deferral of taxes, and all funds from the relinquished property sale must be used to have a full deferral.

When making key investment decisions, a qualified accountant should absolutely be consulted, and discussions should begin early with the qualified intermediary. In addition, your Realtor® can help assess the benefits of one real estate investment versus others.

Don Ricedorff is a Realtor at The Wells Group in Durango, and a past president of the Durango Area Association of Realtors. He can be reached at don@durangorealproperty.com.



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