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When Time Is of the Essence, 1031 Safe Harbor is the Answer" |
© 2002 1031SafeHarbor.net
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What is the 1031 Safe Harbor clearinghouse? How much do I have to pay Safe Harbor for allowing me to exchange 1031 properties (or acquire other 1031 services) through the clearinghouse? How do I sign up to exchange 1031 properties through the clearinghouse? Why should I exchange 1031 properties rather than just buying and selling? Do I need the consent of other parties to exchange 1031 properties? When I exchange 1031 properties is that the same as swapping them? What provisions must be in the applicable Purchase and Sale Agreements? Is a last-minute 1031 exchange possible? What are the basic requirements to exchange 1031 properties? When should I start the process to exchange 1031 properties? May I exchange 1031 properties with a related entity? When I exchange 1031 properties, how do I report it on my income tax return? Can I change my mind once I start to exchange 1031 properties? When I exchange 1031 properties, can I take cash out of the transaction without paying tax? When it comes time to exchange 1031 properties, must I go it alone in acquiring the replacement 1031 properties? If I have already signed my agreement of sale or opened escrow, is it too late to exchange 1031 properties? Can I cause trouble by handling the funds? What if I do not have sufficient equity to acquire 1031 properties of acceptable quality? Can I deed property directly to the buyer of the relinquished property and can the seller of the replacement 1031 properties deed directly to me, sparing the payment of additional transfer taxes? If the tax from a 1031 exchange is deferred, when do I pay the tax? Can I acquire replacement 1031 properties of greater value than the relinquished property, even if that means adding cash or debt to the deal? What can you tell me about disregarded entities? How long do I have to hold a property to have it be considered investment property? What is the 1031 Safe Harbor clearinghouse? The Safe Harbor clearinghouse is the Internet equivalent of a shopping mall where you can locate all the providers you need to exchange 1031 properties. These providers include providers of 1031 properties, qualified intermediaries, title companies, mortgage bankers, and lenders. Nothing. Safe Harbor is paid by the providers who participate in the clearinghouse and never charges taxpayers anything. How do I sign up to exchange 1031 properties through the clearinghouse? Simply complete a short two-part registration process, which you can begin by clicking here. Why should I exchange 1031 properties rather than just buying and selling? Only a few investments afford investors the advantage of tax deferral. 401(K) plans are one such investment. The 1031 exchange is another. In short, the 1031 exchange is a way to dispose of an appreciated investment in real property and invest the entire proceeds—including the appreciation without deduction for taxes—in other real property. You may, under current 1031 exchange rules, use all of your equity to continually exchange 1031 properties upward, accelerating your investments’ net worth much faster than if you were to buy, sell, pay tax, and then use the net after-tax proceeds to buy, sell, and pay tax once again. In a nutshell, the investment power of your equity is not diluted by taxes in 1031 exchanges. Many investors who own a property with low or no debt use debt to trade up to a more valuable property with better cash flow and potential depreciation benefits. A taxpayer owning a single whole property (say, an apartment building in Florida) may exchange into a fractional tenant-in-common interest in a number of different types of property (say, an office building with investment-grade tenants or a health care facility leased to an investment-grade tenant, which almost always are NNN 1031 properties) in different geographic regions, thereby diversifying the taxpayer’s portfolio and reducing a number of investment risks. Taxpayers exchanging from multiple properties (such as single-family rentals) to a single property (such as an apartment building) or a whole property to a TIC can enjoy considerable reduction in the burdens of management. Can you show me in dollars and sense the benefit I enjoy if I exchange 1031 properties? Yes. Look at the table below and the proceeds available for reinvestment, with and without an exchange, and the annual return on an 8% reinvestment, again without and without an exchange. Then, if you like, plug some of your own numbers in the boxes on the right of the form, click on the "Calculate" button at the bottom of the form, and see how a 1031 exchanges affects your tax and cash flow circumstances.
Do I need the consent of other parties to exchange 1031 properties? You should notify the buyer of your relinquished property and the seller of your replacement 1031 properties that you intend to exchange 1031 properties. However, as long as the purchase agreements are assignable, you will not need their consent. When I exchange 1031 properties is that the same as swapping them? No. A 1031 exchange typically is not a “swap” of 1031 properties, but rather is a deferred exchange in which the currently owned property is “relinquished” to one party and “replacement” 1031 property is purchased from another party. What provisions must be in the applicable Purchase and Sale Agreements? While it is not necessary to establish your intent to exchange 1031 properties, it is very useful. However, both Purchase and Sale Agreements must be assignable to the “qualified intermediary” if you wish to take advantage of the 1031 exchange safe harbor. Is a last-minute 1031 exchange possible? You can exchange 1031 properties at the last minute, but it is not desirable. Often, a 1031 exchange can be successfully concluded so long as you contact one of the qualified intermediaries in the clearinghouse before closing the disposition of your relinquished property. What are the basic requirements to exchange 1031 properties? The like kind requirement: both the “relinquished” and replacement 1031 properties must be held for investment or used in a business, and included developed and undeveloped real estate, but excludes primary residences and property “held for sale.” Identification deadline requirement: you must identify the replacement 1031 properties within 45 days from closing on the sale of a relinquished property. Identification notice requirement: you must identify the replacement 1031 properties by signed written notice delivered to your qualified intermediary. Identification property requirement: you may identify: · up to three replacement 1031 properties without regard to their total fair market value. · an unlimited number of replacement 1031 properties, if the total fair market value of all properties is not more than twice the value of the relinquished property. · any number of replacement 1031 properties as long as you acquire 95% of the aggregate fair market value of all replacement 1031 properties identified. Closing date requirement: you must close on the replacement 1031 properties by the earlier of 180th day after the closing date for the relinquished property or the due date (including extensions) for filing the tax return for the year in which the relinquished property was sold. Safe Harbor Requirement: to enjoy the benefit of the 1031 exchange safe harbor, a “qualified intermediary” must hold the proceeds from disposition of the relinquished property and use them to purchase the replacement 1031 properties. When should I start the process to exchange 1031 properties? As soon as possible: failing to meet deadlines is the #1 cause of the failed 1031 exchange. May I exchange 1031 properties with a related entity? Section 1031(f) contains strict related-party rules. Failure to comply is risky. When I exchange 1031 properties, how do I report it on my income tax return? When you file your annual return use IRS Form 8824 to report your realized gain (if any), recognized gain (if any), new basis, date of disposition of the relinquished property, and date of acquisition of your replacement 1031 properties. Can I change my mind once I start to exchange 1031 properties? Yes, but you will have to pay any taxes due from disposition of the relinquished property. When I exchange 1031 properties, can I take cash out of the transaction without paying tax? No. Cash taken out of the relinquished property proceeds and not re-invested in replacement 1031 properties is boot and is taxable. When it comes time to exchange 1031 properties, must I go it alone in acquiring the replacement 1031 properties? No, but be careful of the tax effects of adding a partner rather than an investor. No, as long as you have not closed, a 1031 exchange can still be completed. However, once closing occurs, you may not exchange 1031 properties. Can I cause trouble by handling the funds? Yes. Actual or constructive receipt of funds (including good faith deposits) can have adverse tax effects, including spoiling the 1031 exchange. Allowing the qualified intermediary to handle the funds gives you the benefit of a safe harbor in the tax code. What if I do not have sufficient equity to acquire 1031 properties of acceptable quality? You can still exchange 1031 properties by acquiring a fractional tenancy-in-common interest (“TIC”) in a larger 1031 property, such as a share of an office building with investment-grade tenants. Such TIC interests are almost always NNN 1031 properties. Can I deed property directly to the buyer of the relinquished property and can the seller of the replacement 1031 properties deed directly to me, sparing the payment of additional transfer taxes? Yes, direct deeding to avoid additional transfer taxes is permitted. If the tax from a 1031 exchange is deferred, when do I pay the tax? Only when you dispose of the replacement 1031 properties in a taxable transaction. You may exchange the replacement 1031 property any number of times and continue the tax deferral. If you hold the 1031 properties until death, the step up in basis may eliminate tax entirely. Yes. What can you tell me about disregarded entities? Under the “check the box” regulations, an entity with a single owner, such as a single member limited liability company, is a disregarded entity (assuming no election is made to be a corporation for tax purposes. Such a disregarded entity reports in the same manner as a sole proprietorship, while the owner of the LLC enjoys protection from the liabilities of the LLC. In fact, the owner of a single-member LLC may dispose of relinquished property, but have the LLC take title to the replacement 1031 properties. How long do I have to hold a property to have it be considered investment property? 1031 properties must be “held for investment.” To determine whether a property was “held for investment,” the relevant authorities look at, among other things, the length of time you have held the property. Here is a summary: · proposed (but not adopted) Internal Revenue Code changes—1 year. · IRS private letter ruling (PLR 8429039) —2 years. · Tax Court—five months and twenty days. A conservative course would be to hold any 1031 properties at least twelve months so that you will at least report the 1031 properties in two different filing periods. N.B., neither the proposed code changes or private letter ruling constitute binding legal precedents for all investors, and, in all events, time is only one factor in determining whether property is held for investment. Top of Page
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