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So named because it is defined in section 1031 of the IRS Code, 26 U.S.C. § 1031, this refers to a commonly utilized tax break which allows capital gains taxed to be deferred in certain cases in real estate transactions. Considered one of the best ways to preserve wealth, the 1031 exchange, or Like Kind Exchange, generally allows a homeowner or real estate investor to sell one property and defer all capital gains taxes if the proceeds of the sale are reinvested in an asset of like kind, generally in more real estate.
The replacement property must be of the same like and kind. This means that if you are selling an investment property you must replace it with another investment property, and not a purchase a new primary residence. Before selling and purchasing any property, be sure to speak with a CPA or accountant to ensure proper compliance to the 1031 exchange regulation.
Prudent use of the 1031 exchange can shield all the capital gains on your properties until you reach retirement. Other tax strategies can preserve the gain thereafter. This makes real estate one of the best investments available, provided you do your homework.
1031 exchanges are specifically structured transactions that join together the sale of an old property and the purchase of a new property for the purpose of deferring taxes.
1031 exchanges can be done for situations where the next purchase is for an equal or larger amount than the selling price. This doesn't mean that your next purchase has to be one property for a larger amount but could be several properties that are for a larger amount. Your escrow officer is best able to explain all these ins and outs.
When doing a 1031 exchange, you will need to make sure the replacement property is equal or greater value to that which you are selling in order to have a completely tax free exchange. Any monies remaining, also called "boot" will be taxed as capital gains.
You typically have 180 days from the date of sell of one property to purchase another similar property. In the mean time, the funds from the first sale will be held by a qualified intermediary. Be cautious choosing your qualified intermediary as recently many people have had their investment proceeds embezzled by fraudulent intermediaries.
The idea behind 1031 Exchange is that since the taxpayer is merely exchanging one property for another property(ies) of “like-kind” there is nothing received by the taxpayer that can be used to pay taxes with. All the gain is still locked up in real estate and so no gain or loss can be claimed.
» DISCLAIMER: The information contained in this article on '1031 Exchange' is a collection of contributions by licensed mortgage professionals and is not the opinion of Broker Outpost LLC. Always consult a licensed professional before applying for a mortgage.
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