Investing in US real estate usually requires a lot of money on the part of the investor. Along with the investment comes hefty fees such as capital gains taxes, etc. If you want to use your investment money wisely, you may want to use a 1031 exchange.
What is a 1031 Exchange?
When US real property investors talk about how to save money, one of the ways they go about it is by using what is called a 1031 exchange. This basically refers to section 1031 of the Internal Revenue Code which states that property owners can finish an exchange of properties as long as those assets are similar to one another. When you exchange properties as opposed to a regular purchase of one, you can avoid not paying the capital gains tax that accumulates once that property has been sold to a buyer.
The 1031 exchange gives investors a unique potetnail to get rid of assets and get new ones without having to be legally bounded by the accompanying taxes and levies that usually comes with such transactions. Investors looking to take advantage of this opportunity require a good knowledge on US real estate laws as well as the guideline in the IRS code.
The Different Types of 1031 Exchanges
There are quite a few types of 1031 exchanges available for US real estate investors. The first and most common type is the delayed exchange. This is when the time passes between the transfer of the property that is being given up and the receipt of the replacement property asset. The next type is called the simultaneous exchange which basically means that there is no time lapse. Meanwhile, a build-to-suit exchange refers to the use of the proceeds from the original property to augment or improve the newly acquired one. For items involving other than US real estate it is called a personal property exchange while the reverse exchange pertains to the scenario wherein the investor becomes the owner of a new property prior to giving up the old one.
Requirements for a 1031 Exchange
In order for a US property to qualify for a 1031 exchange it must adhere to the rules and regulations stipulated in the Internal Revenue Code particularly the section on excahnges. It stipulates that both the old and the new property being acquired should be used in the taxpayer’s line of occupation, business or investment ventures. The replacement property must be similar to one another. The cardinal rule is that if the property is located in the US it is likely that it would qualify. Another stipulation says that the property being given up should be exchanged for another property so that the taxpayer that sells the original land utilizes the funds to purchase a new real estate property would not be able to use the 1031 exchange if he still has the funds before he was able to purchase the new property.
It is important to take note that the investor’s personal home does not qualify for the 1031 exchange as well as properties that were primarily used for the intention of bonds, notes, inventory and interest in a partnership to name a few.