1031 Exchange Case Study: Like-Kind Exchanges and Hard Money Lending

1031 exchanges can be complex and many taxpayers have questions about specific like-kind exchange situations. It’s important to get answers to these questions from a qualified intermediary before starting your exchange so you can ensure your 1031 exchange will be a success.

Consider the Following 1031 Exchange Situation / Question:

We are entertaining the idea of selling our two rental properties. In the event we’d prefer to use this for hard money lending, is it possible to avoid capital gains with a 1031 exchange? Our thought would be to roll the proceeds into a hard money lending platform where we would invest smaller amounts that would be pooled with other lenders in multiple different projects around the county. Does that meet the criteria for deferring capital gains in a 1031 exchange? 

1031 Exchange Rules

Unfortunately, no. You cannot do a 1031 exchange from real estate into a creditor’s position in a hard money loan. You have to exchange into like-kind replacement real property, NOT a note or other evidence of indebtedness (which is not qualifying replacement property).

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

Defer the tax. Maximize your gain.

© 2022 Copyright Jeffrey R. Peterson All Rights Reserved

How to Change Ownership of Commercial Property After Completing a 1031 Exchange

In a 1031 exchange, many people want to change the ownership of their replacement property after they acquire it. This is certainly possible, but there are a number of factors to carefully consider so you don’t jeopardize your exchange.

A Potential Landmine

A potential landmine that exists in this scenario is that your 1031 requires that the taxpayer who did the exchange must continue to hold that replacement property for investment or business purposes.

If a taxpayer acquires a property and then immediately does something inconsistent with holding it for investment or business purposes such as gifting it to a charity, or transferring it to a friend, or bringing their spouse into title with them on that property they may find that they are now holding the property inconsistent with the requirements of 1031, thus jeopardizing the exchange.

Let the Dust Settle

So our advice is to let the dust settle on that 1031 exchange and hold the property for a substantial period before transitioning to a different type of ownership.

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

Defer the tax. Maximize your gain.

© 2022 Copyright Jeffrey R. Peterson All Rights Reserved

A Pro Tip for Avoiding Boot in a 1031 Exchange

When you’re conducting a 1031 exchange of real estate, it’s important to do everything possible to avoid receiving any cash boot, in order to ensure the success of your exchange. Here’s an great pro tip that some taxpayers can utilize to avoid boot in a 1031 exchange of real estate.

Avoiding Boot

The buyer on a replacement property will extract a concession from the seller where the seller agrees to pay for up to $5,000 of the buyer’s closing costs and prepaid expenses. Then the buyer moves those charges that are related to the lender fees off of their side to the closing statement and on to the seller side pursuant to that concession so the seller ends up paying for those costs rather than the buyer.

Pay Questionable Expenses Out-of-Pocket

When in doubt, it’s always better to pay questionable transactional expenses out-of-pocket rather than dipping into the exchangor’s 1031 exchange funds. Also, it’s a good idea to ask the exchangor’s accountant or CPA to review and comment on the closing/settlement statement before the closing is completed, because once the closing is done it’s too late to change the disbursements.

CPEC1031 LLC

At CPEC1031 LLC, we have decades of experience facilitating commercial transactions across the United States. Contact our commercial real estate professionals at our primary offices in Minneapolis today to learn more about our services and how we can help with your next commercial transaction.

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

Defer the tax. Maximize your gain.

© 2022 Copyright Jeffrey R. Peterson All Rights Reserved

What to Do After Your 1031 Exchange of Real Estate

We talk a lot about the importance of preparing well before engaging in a 1031 exchange. We don’t talk as much about what you should do after a 1031 exchange. In this article, we are going to discuss the recommended steps that you should take once your 180 day 1031 exchange period has ended.

Finalize Details with your Intermediary

There will likely be some follow up items that your qualified intermediary will help you handle after the closing of your replacement property. Be sure to get your intermediary any information they request in a timely fashion so this process can go as smoothly as possible.

Connect with Your CPA

Perhaps the most important thing you need to do after the 1031 exchange has ended is communicate with your CPA about reporting the 1031 exchange to the IRS. It’s a good idea to inform your CPA of your intent to engage in a 1031 exchange before you even start the process. After all is said and done, work with your CPA to accurately report the exchange on your annual tax filing.

Compound Your Wealth with a 1031 Exchange

A 1031 exchange allows you to defer your capital gains taxes on the sale of real property and instead move that money into a continuing investment that will allow you to compound your wealth over time. Section 1031 is a very powerful provision that requires the assistance of a professional intermediary. The qualified intermediaries at CPEC1031 LLC have over two decades of experience working in the 1031 exchange industry. Reach out to us today at our downtown Minneapolis office to set up an appointment with one of our qualified intermediaries.

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

Defer the tax. Maximize your gain.

© 2022 Copyright Jeffrey R. Peterson All Rights Reserved

Why the 1031 Exchange is a Powerful Tool

Internal Revenue Code (“IRC”) Section 1031 is a power tool that allows investors to reinvest their capital in the most advantageous like-kind investment while deferring the capital gains, depreciation recapture and state income tax consequences. The rationale behind Section 1031 is to not penalize exchangors when they are not cashing out, but are reinvesting all of their equity in like-kind property. This stimulates the economy and moves capital, increasing property values and encouraging more investments.

1031 exchanges are a fantastic way to keep your money working for you in continued investments, rather than taking a capital gains tax hit with the sale of real property.

Minnesota Qualified Intermediaries

If you’re considering a 1031 exchange of real estate, the best thing you can do is consult with a qualified intermediary. There are a lot of rules and regulations that come with a 1031 exchange, and you want to make sure you’re covering all of your bases. That’s where a qualified intermediary can help – by answering your questions, advising you throughout your exchange, and preparing the necessary documents for your closing. Contact the qualified intermediaries at CPEC1031 today to get started.

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

Defer the tax. Maximize your gain.

© 2022 Copyright Jeffrey R. Peterson All Rights Reserved