What Lawyers Need to Know about 1031 Exchanges

Lawyers have a special relationship with their clients and want to provide the best possible service. But when it comes to facilitating a 1031 exchange if you've been the agent of the taxpayer or employee of the taxpayer during the last two years, you are excluded from acting as their qualified intermediary.

The Role of a Qualified Intermediary

A qualified intermediary is supposed to be a neutral third party who is beholden to the taxpayer, beyond their sway. I generally recommend that you don't use your colleague from across the hallway that's in the same law firm to act as an intermediary. Instead, for a relatively nominal fee, you can use a professional third-party intermediary that is engaged exclusively in the business of facilitating exchanges, and that has a proven track record; who carries specific errors and omissions insurance and fidelity bonds, and also has the expertise and experience to help support you in facilitating your client’s successful transition from the relinquished property to the replacement property.

In other words, lawyers get to wear one hat in these 1031 transactions - to be the lawyer. while the qualified intermediary wears the hat of the facilitator or accommodator to provide separate and distinct services in the facilitation of your client’s successful 1031 exchange.

• Start Your 1031 Exchange: If you have questions about what lawyers need to know about 1031 exchanges, feel free to call me at 612-643-1031.

Defer the tax. Maximize your gain.

© 2016 Copyright Jeffrey R. Peterson All Rights Reserved

Are 1031 Exchanges only for Big Investors?

Are 1031 exchanges only for big time investors that have lots and lots of net proceeds? The quick answer to this question is no. In this article, we will examine a few of the ways in which any investor – large or small – can benefit from a 1031 exchange.

Small Investors & 1031s

It’s a common myth that 1031 exchanges are only for the largest investors. But small mom-and-pop investors can avail themselves of the same tax deferral that the big boys do.

Whether you're selling a $43,000 single family rental in Akron Ohio or selling the Trump Plaza in New York City the same principle applies. If you want to take your hard-earned equity and redeploy it into another replacement property that's like kind so that you can use that money to compound and build your own wealth, you can do so. Even little guys can avail themselves of substantial tax savings and grow and compound their wealth until they're no longer little guys and are now successful real estate entrepreneurs.

Determining Your Gain

Your gain is determined by the difference between your current adjusted basis and the net sale price (amount realized), so even if you do not receive very much cash proceeds, it can still make good sense to set-up your sale as a 1031 exchange.  If you estimated a combined state and federal rate of 33%, even if you can defer the recognition of $50,000.00 of gain, that may result in a tax savings of $16,500.00.  So, even small investors can save BIG with IRC Section 1031 Like-Kind Exchanges.

• Start Your 1031 Exchange: If you have questions about 1031 exchanges and investing in real estate, feel free to call me at 612-643-1031.

Defer the tax. Maximize your gain.

© 2016 Copyright Jeffrey R. Peterson All Rights Reserved

Death of a Taxpayer During a 1031 Exchange

What do you do if you're doing a 1031 exchange and the taxpayer dies in the middle of the exchange? In other words, after the disposition of the relinquish property, the taxpayer that's conducting the exchange dies - what are your options in that scenario?

Let the Exchange Fail

One possibility is you could just decide to have the exchange fail and return the unused proceeds back to the estate. The personal representative of the estate will then file a tax return for the final year of the deceased’s life, and show that the sale occurred and they realized all of the gain on the sale of the property. That would probably be the most tax inefficient treatment. A fate almost worse than death.

Continue the Exchange

The other possibility is that the personal representative could continue to complete the exchange and purchase replacement property of equal or greater value/equity and offset the debt relief so that when they file their final tax return they don't recognize any gains on the disposition of the relinquished property and the personal representative does have to send any checks to the IRS for the sale of the relinquished property.

For the heirs that are inheriting that replacement property they are receiving the replacement property with a stepped-up basis which means the basis is increased or stepped up to the fair market value at the time that it is appraised for estate tax purposes. So we are deferring the tax in the estate and then the entire tax liability dissipates when the basis gets stepped up. To the heirs that is a double play that is outstanding and can save them a lot in taxes.

• Start Your 1031 Exchange: If you have questions about what happens when a taxpayer dies in the midst of a 1031 exchange, feel free to call me at 612-643-1031.

Defer the tax. Maximize your gain.

© 2016 Copyright Jeffrey R. Peterson All Rights Reserved

Will 1031 Exchanges Ever go Away?

Some people are really worried that section 1031 will be eliminated by congress in the next major tax overhaul. This article will go over a brief history of 1031 exchanges, and what the future looks like for tax-deferred exchanges.

A Brief History of IRC Changes

The United States has had various iterations of the Internal Revenue Code and some major overhauls. The last overhaul happened in 1986, and guess what happened to the values of real estate after the ‘86 tax reform? They went down, and they stayed down for quite a while because Congress was insensitive to the plight of the real estate investor. The shock from the tax changes really hurt real estate values.

My hope is that in the future Congress will be more surgical and sympathetic to the needs of real estate investors and will incorporate section 1031 into the next overhaul. But the play that congress will have to entertain is that they will eliminate all of these many loopholes and incentives in order to gain the simplicity of lowering overall tax rates.

What Would Happen if 1031 Exchanges Went Away

There is however an illusion about section 1031’s elimination. People estimate that eliminating section 1031 would be a revenue raiser by eliminating the tax deferral. However the reality is if you eliminate 1031, all of the velocity you feel in the market will cease to continue. Another way of saying that is, a farmer or apartment building owner will simply stay in their property. They won’t want to sell it and take the tax hit on the sale, so they just stay in the property. With 1031 they could go into a bigger and better property.

1031 exchanges have been really HOT for the last 24 months. This has been a HUGE force that has helped to power-up the U.S. economy.  When private capital can move tax-free to the most advantageous like-kind investments it drives development, job growth, and boosts private-sector productivity and efficiency. 

Eliminating 1031 would not raise any additional revenue, but would slow deal velocity to a halt.  Investors would rather stay locked-in to their tired old properties rather than pay unnecessary taxes on a sale and risk a move-up to a bigger property.

• Start Your Exchange: If you have questions about changes to the IRC, feel free to call me at 612-643-1031.

Defer the tax. Maximize your gain.

© 2016 Copyright Jeffrey R. Peterson All Rights Reserved

Can you 1031 Exchange into Stock?

People sometimes ask if they can do a 1031 into stock. Most people are selling real estate and needing to exchange into other like-kind property. Wouldn’t it be great if we could exchange into stock in IBM or Target or another big Fortune 500 company? This article will discuss the issue of 1031 exchanges and stock.

1031 Treasury Regulations

Unfortunately, when the Treasury regulations were written for the tax code relating to Section 1031 Congress excluded stocks, bonds, and other evidences of indebtedness. So paper such as stock, bonds, and notes are all excluded from 1031 treatment. You can’t exchange into it.

Real Estate Investment Trusts (R.E.I.T.)

What you can exchange it into is other real estate. What some people like to do is acquire a piece of real estate that eventually will be contributed to a real estate investment trust.

They’ll hold that piece of property for a year or two and then contribute it in a section 721 contribution so that piece of real estate that they acquired as the replacement property eventually migrates up to the REIT and turns into shares in the REIT itself. So in a strange roundabout way there's a way to piggyback the section 1031 exchange with a 721 contribution to effectively get to a place where you actually acquired at the end of this shares in an interest in a REIT.

There is no mandated bright line rule that I can direct you to for how long you must hold a property before contributing it to a partnership. Both the tax code and the regulations are void of clarity. There are some tax cases on point; however, most of these authorities are older from before partnership interests were excluded from 1031 treatment in IRC section 1031(a)(2)(D) as a result of the Tax Reform Act of 1984, Pub. L. No.98-369, 98 Stat.494.

• Start Your Exchange: If you have questions about stocks or interests in business entities such as corporations or partnerships involving 1031 exchanges, feel free to call me at 612-643-1031.

Defer the tax. Maximize your gain.

© 2016 Copyright Jeffrey R. Peterson All Rights Reserved