1031 exchange gets its name from Section 1031 of the U.S. Internal Revenue Code, which allows you to avoid paying capital gains taxes when you sell an investment property and reinvest the proceeds from the sale within certain time limits in a property or properties of like kind and equal or greater value. This is a procedure that allows the owner of investment property to sell it and buy like-kind property while deferring capital gains tax. Although this is an excellent way for investors to constantly defer taxes, there are a few things when reinvesting in 1031 exchanges. Here are 5 tips to have a smooth 1031 exchange.
- Have a great strategy – Investors need to have a strong a long term strategy when investing in 1031. The IRS requires that you exchange property for the same value or more, you’ll have to pay capital gains for the difference in value between the investment property and its replacement. Make sure to outline your investment goals and map out an investment strategy to get there.
- Watch the deadlines – The IRS set out specific deadlines for businesses and investors to meet in order to defer taxes. They didn’t want to be in a situation where investors would hold-off on replacing the property or enjoy the profits without paying taxes. Here’s what you need to know. As soon as you sell your investment property, you have 45 calendar days to find a replacement property. You have 180 days from the time of sale to close on the replacement property.
- Find out the replacement property – It can be difficult to think ahead when you’re trying to close on properties to meet the IRS deadlines. However, you need to be two steps ahead in investment properties. Investors need to consider if they purchase a replacement property, who the likely buyer would be. It wont be good if they don’t want to be in a position where they purchased an investment property and no one wants to buy it later on.
- Have finances in order – As an investor, you don’t want to be the reason why a 1031 exchange fails. That’s why investors need to make sure that they have their financing in order before even begin the process. It is important to make sure that your replacement property allows for financing and your credit score is in good shape to get approved for a loan.
- Be inform of rules – Since the tax laws are always changing, it is important to be on top of the rules and laws. For example, did you know that there were changes to 1031 exchanges in the Tax Cuts and Jobs Act of 2017? Prior to 2018, you would be able to exchange intellectual property, equipment, and many other items. Now, you can only exchange real estate properties. As an investor, you need to stay up to date with this and future changes to the tax code.
In conclusion, it is important as investors to make sure to have a smooth transitioning when investing in 1031 exchange. In order to have a successful 1031 exchange, it is imperative to follow these tips to the tee. Investors need to make sure to follow all of these steps so things can turn out well.