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Workbook for Edmund & Wheeler's 3HR Real Estate Course, The Power of Section 1031 for Real Estate Professionals.

Workbook for Edmund & Wheeler's 3HR Real Estate Course, The Power of Section 1031 for Real Estate Professionals.

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3 Hr Workbook Document Transcript

  • 1. Flawless Section 1031 Exchanges for Over 27 Years        Section 1031     For   Real Estate   Professionals   3 Hour Elective Course Approved by: The New Hampshire, Vermont & Maine Real Estate Commissions It is estimated that 20-25% of the nearly Edmund & Wheeler, Inc. QI $200B in annual real estate transactions 567 Cottage Street could benefit from a Section 1031 Littleton, NH 0561 Exchange, and that only 3% take advantage of this powerful tool. 603-444-0020 Edmund & Wheeler, as a Qualified Intermediary (QI), has been facilitating www.section1031.com Section 1031 Exchanges for over 27 years. exchange@section1031.com We have developed “The Power of Section 1031” to provide a solid understanding of Section 1031 basics and the strategic ways in which Section 1031 can be utilized and to assist real estate professionals in recognizing opportunities for their clients.   © 2008 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice.
  • 2. Welcome To Section 1031 for Real Estate Professionals. This workbook has been designed to assist you during the course, and to provide a reference tool for you in the future. The session is broken down into three sections as described below. Web references have been made throughout the document so that you can do further topical research as required. Web references are indicated with a grey arrow. www.section1031.com If you have follow-on questions or concerns after you complete this course, Edmund & Wheeler is always available by email at exchange@section1031.com, by phone at 603-444-0020, or on the Web at www.section11031.com. Our practice provides real estate professionals with Section 1031 consulting at no charge! Section 1 provides you with an outline of this course, an introduction  Section to the Section 1031 Exchange and the essential elements required for  1 successful exchanges.  Introduction &   1031 Basics This section lasts approximately 1 hour and begins on Page 3.  Section 2 contains case studies of the various types of Exchanges as  Section well as real‐life examples of actual transactions that will assist you in  developing your own Section 1031 strategies.  2   Case Studies & Real-life Examples This section lasts approximately 1 hour and begins on Page 20.  Section 3 outlines the viable alternatives for Exchanges that can be  Section used for diversification, relocation or the desire of a client wishing to  3 exit from the real estate investment class.   Alternate Exchange   Opportunities This section lasts approximately 1 hour and begins on Page 38.  1 Page Course Summary – “Must Have Section 1031 Concepts”  Summary Commonly used phrases and Section 1031 definitions.  Begins on Page 55  Section 1031   Glossary © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 2
  • 3. Section 1 Introduction & 1031 Basics Contents Introduction.................................................................................................................................... 4 About Edmund & Wheeler, Inc. ..................................................................................................... 5 Course Outline .............................................................................................................................. 2 Primary Objectives of This Course................................................................................................ 6 What Is A Section 1031 Exchange................................................................................................ 7 The Five Critical Elements of an Exchange .................................................................................. 7 The Regulation .............................................................................................................................. 7 An Exchange at A glance .............................................................................................................. 8 Section 1031 (a)(1) IRS Code ....................................................................................................... 8 What Are the Benefits of an Exchange? ....................................................................................... 12 The Essential Elements ................................................................................................................ 12 Replacement Property Rules ........................................................................................................ 13 Real Property (What is Like Kind?) ............................................................................................... 14 Personal Property.......................................................................................................................... 15 Timing Is Everything ...................................................................................................................... 16 Can Anyone Handle an Exchange? .............................................................................................. 16 Who Qualifies for an Exchange?................................................................................................... 16 The Qualification Tool ................................................................................................................... 17 The Five Most Common Section 1031 Misconceptions ................................................................ 19   © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 3
  • 4. Too many professionals get caught up in the belief that  Section 1031 is only about deferring capital gains. While it  is one of the remaining tax deferral tools available, it’s  actually a LOT about leverage. Clients using what they  would have paid immediately in capital gains taxes to  improve the quality and value of their holdings and plan  for their financial future; is REALLY what Section 1031 is  all about.  Section 1031 has been a part of the Internal  Revenue Service Code since 1921!  Look at it as a gift from Uncle Sam, but don’t tell anyone.  Ok, let’s do the math. These numbers suggest that  investors paid the Government over $10B in capital gains  taxes when in fact, they could have used this money in  their own portfolios, interest free, for as long as they  would like. Wait a minute…  Why is this so? We have found that many professionals  that we deal with on a day‐to‐day basis are unclear of the  many strategic uses of Section 1031. Unfortunately, there  are still many that don’t even know of its existence, and  fail to recognize even its most basic uses.  Don’t let your clients find out you didn’t tell them they  could have used this powerful tool.  As real estate professionals, you have a certain  responsibility to your clients regarding the tax  ramifications of their transactions.  Holders of  investment  real estate should be made aware of the tools that are  available to help them strengthen their real estate  portfolios. Section 1031 is one of the more powerful tools.  We hear over and over again from real estate  professionals how thankful their clients were that they  understood Section 1031 and helped them to explore the  possibilities. Indeed, many of our real estate partners  have saved their clients hundreds of thousands of dollars  in capital gain expense, giving them more money to    invest, while earning multiple commissions in the process!  © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 4
  • 5. In 1981, Mr. George Foss, III, our founder and co‐principal was a prominent real estate  broker in Northern New Hampshire. After reading about the concept of a Section 1031  Exchange, he was immediately intrigued, and saw the opportunity to add an interesting twist  to his real estate deals by helping clients to take advantage of this virtually unknown gift  from Uncle Sam.  27 years and thousands of successful exchanges later, George Edmund & Wheeler remains  the foremost authorities on Section 1031 in the New England states, and have completed  exchanges with clients in 48 of 50 states.  The firm has provided Section 1031 education and consulting to hundreds of New England  real estate professionals and has helped them to save their clients over $100 Million in  capital gains taxes.                  George Foss, QI                                John Hamrick, Instructor    © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 5
  • 6. This course has been designed to assist you in  becoming proficient in the basics of a Section  1031 Exchange.   An Exchange can be a very complex and time  consuming endeavor. Your QI will understand  all of the mechanics and the myriad of rules and  regulations surrounding an Exchange. Our goal  for this session is to provide you the knowledge  and tools you will require to assist your clients  in recognizing the tremendous opportunities  that Section 1031 provides.        Section 1031 is not just a tax deferral vehicle. It  is a powerful part of your client’s overall  investment strategy, their exit strategy from a  business, and an integral part of their estate  planning.  Bottom line is that the taxes that are deferred  can be used to leverage larger investments,  diversify portfolios and substantially increase  wealth over a period of time.          Don’t worry, we won’t grade you. We want to  take an inventory of what our students know  about Section 1031 prior to the course.   When the course is over, we will re‐take the  quiz, and you will see how far you’ve come in  just a short time.  Good Luck!      © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 6
  • 7. Section 1031 fundamentally is about the relocation and  reallocation of your client’s real estate assets, all without  paying capital gains taxes. Relocation could be across the  street, or across the nation. Clients can relocate their  holdings to several markets, creating geographical  diversity. They can also reallocate holdings by combining  multiple holdings into one more valuable property. They  can sell apartment buildings and Exchange for single‐ family housing units, or they can opt for one of the  passive real estate investments available to them and  leave the day‐to‐day management of real estate to a  professional property management team.      Section 1031 exchanges are reported on your tax return  by using Schedule 8824.  It is important that all of the  documentation leading up to and throughout the  exchange is explicit that an exchange is taking place and  not an ordinary sale.  The taxpayer cannot touch the  funds or it will trigger the tax.  The Relinquished Property  and the Replacement property must be  investment/business use property in the taxpayer’s  hands.  All exchanges must be concluded with 180 days.            An exchange is handled in the same manner as a regular  sale with the exception that a third party Qualified  Intermediary (QI) provides the documentation and  handles all funds.      © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 7
  • 8. www.section1031.com/PDFs/New PDFs/IRC1031.pdf   Section 1031 (a)(1) (a) Nonrecognition of gain or loss from exchanges solely in kind (1) In general No gain or loss shall be recognized on the exchange of property held for productive use in a trade or business or for investment if such property is exchanged solely for property of like kind which is to be held either for productive use in a trade or business or for investment. (2) Exception This subsection shall not apply to any exchange of— (A) stock in trade or other property held primarily for sale, (B) stocks, bonds, or notes, (C) other securities or evidences of indebtedness or interest, (D) interests in a partnership, (E) certificates of trust or beneficial interests, or (F) choses in action. For purposes of this section, an interest in a partnership which has in effect a valid election under   section 761 (a) to be excluded from the application of all of subchapter K shall be treated as an interest in each of the assets of such partnership and not as an interest in a partnership. © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 8
  • 9. (3) Requirement that property be identified and that exchange be completed not more than 180 days after transfer of exchanged property For purposes of this subsection, any property received by the taxpayer shall be treated as property which is not like-kind property if— (A) such property is not identified as property to be received in the exchange on or before the day which is 45 days after the date on which the taxpayer transfers the property relinquished in the exchange, or (B) such property is received after the earlier of— (i) the day which is 180 days after the date on which the taxpayer transfers the property relinquished in the exchange, or (ii) the due date (determined with regard to extension) for the transferor’s return of the tax imposed by this chapter for the taxable year in which the transfer of the relinquished property occurs. (b) Gain from exchanges not solely in kind If an exchange would be within the provisions of subsection (a), of section 1035(a), of section 1036(a), or of section 1037(a), if it were not for the fact that the property received in exchange consists not only of property permitted by such provisions to be received without the recognition of gain, but also of other property or money, then the gain, if any, to the recipient shall be recognized, but in an amount not in excess of the sum of such money and the fair market value of such other property. (c) Loss from exchanges not solely in kind If an exchange would be within the provisions of subsection (a), of section 1035(a), of section 1036(a), or of section 1037(a), if it were not for the fact that the property received in exchange consists not only of property permitted by such provisions to be received without the recognition of gain or loss, but also of other property or money, then no loss from the exchange shall be recognized. (d) Basis If property was acquired on an exchange described in this section, section 1035 (a), section 1036(a), or section 1037 (a), then the basis shall be the same as that of the property exchanged, decreased in the amount of any money received by the taxpayer and increased in the amount of gain or decreased in the amount of loss to the taxpayer that was recognized on such exchange. If the property so acquired consisted in part of the type of property permitted by this section, section 1035 (a), section 1036(a), or section 1037 (a), to be received without the recognition of gain or loss, and in part of other property, the basis provided in this subsection shall be allocated between the properties (other than money) received, and for the purpose of the allocation there shall be assigned to such other property an amount equivalent to its fair market value at the date of the exchange. For purposes of this section, section 1035 (a), and section 1036 (a), where as part of the consideration to the taxpayer another party to the exchange assumed (as determined under section 357 (d)) a liability of the taxpayer, such assumption shall be considered as money received by the taxpayer on the exchange. (e) Exchanges of livestock of different sexes For purposes of this section, livestock of different sexes are not property of a like kind.     © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 9
  • 10. (f) Special rules for exchanges between related persons (1) In general If— (A) a taxpayer exchanges property with a related person, (B) there is nonrecognition of gain or loss to the taxpayer under this section with respect to the exchange of such property (determined without regard to this subsection), and (C) before the date 2 years after the date of the last transfer which was part of such exchange— (i) the related person disposes of such property, or (ii) the taxpayer disposes of the property received in the exchange from the related person which was of like kind to the property transferred by the taxpayer, there shall be no nonrecognition of gain or loss under this section to the taxpayer with respect to such exchange; except that any gain or loss recognized by the taxpayer by reason of this subsection shall be taken into account as of the date on which the disposition referred to in subparagraph (C) occurs. (2) Certain dispositions not taken into account For purposes of paragraph (1)(C), there shall not be taken into account any disposition— (A) after the earlier of the death of the taxpayer or the death of the related person, (B) in a compulsory or involuntary conversion (within the meaning of section 1033) if the exchange occurred before the threat or imminence of such conversion, or (C) with respect to which it is established to the satisfaction of the Secretary that neither the exchange nor such disposition had as one of its principal purposes the avoidance of Federal income tax. (3) Related person For purposes of this subsection, the term “related person” means any person bearing a relationship to the taxpayer described in section 267 (b) or 707 (b)(1). (4) Treatment of certain transactions This section shall not apply to any exchange which is part of a transaction (or series of transactions) structured to avoid the purposes of this subsection. (g) Special rule where substantial diminution of risk (1) In general If paragraph (2) applies to any property for any period, the running of the period set forth in subsection (f)(1)(C) with respect to such property shall be suspended during such period. (2) Property to which subsection applies This paragraph shall apply to any property for any period during which the holder’s risk of loss with respect to the   property is substantially diminished by— © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 10
  • 11. (A) the holding of a put with respect to such property, (B) the holding by another person of a right to acquire such property, or (C) a short sale or any other transaction. (h) Special rules for foreign real and personal property For purposes of this section— (1) Real property Real property located in the United States and real property located outside the United States are not property of a like kind. (2) Personal property (A) In general Personal property used predominantly within the United States and personal property used predominantly outside the United States are not property of a like kind. (B) Predominant use Except as provided in subparagraphs (C) and (D), the predominant use of any property shall be determined based on— (i) in the case of the property relinquished in the exchange, the 2-year period ending on the date of such relinquishment, and (ii) in the case of the property acquired in the exchange, the 2-year period beginning on the date of such acquisition. (C) Property held for less than 2 years Except in the case of an exchange which is part of a transaction (or series of transactions) structured to avoid the purposes of this subsection— (i) only the periods the property was held by the person relinquishing the property (or any related person) shall be taken into account under subparagraph (B)(i), and (ii) only the periods the property was held by the person acquiring the property (or any related person) shall be taken into account under subparagraph (B)(ii). (D) Special rule for certain property Property described in any subparagraph of section 168 (g)(4) shall be treated as used predominantly in the United States.       © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 11
  • 12. It’s important to understand the difference  between investment property and property  “held for sale.”  Property that is held for sale is  technically inventory in the hands of the  taxpayer and is therefore not eligible for Section  1031 treatment.                Section 1031 Exchanges can be used as a  strategy to achieve tax deferral while changing  the location and the type of property held.  As a  tax‐planning tool, it will achieve greater net  equity over time and increased cash flow.              The Exchange Agreement created by the  Qualified Intermediary will give the QI legal  standing by way of assignment in both the old  property and the new property.  From the  Exchangors perspective, a sale does not occur,  but rather an exchange of properties.  Both  must be used by the taxpayer for investment or  productive use and remember that all real  property is like‐kind to all other real property.      © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 12
  • 13. There are three separate rules for identifying Replacement property.  The most common  rule is termed the “3 Property Rule.”  It doesn’t matter how many properties were sold in  an exchange, it is the value that is being matched.  Identifying three properties within the  45‐day deadline will be challenging.  Even if you eventually only select one property, it’s a  good policy to identify more than one so a backup property is available if the first choice  becomes unattainable.   The 200% Rule is available to taxpayers who want to identify and/or acquire more than  three properties.  The limitation in using the 200% Rule is that the total value of what is  identified cannot exceed twice the value (or 200%) of the Relinquished Property.  This  rule works well for larger dollar transactions when the taxpayer wants to diversify the  investment into multiple properties.  The 95% Rule is the most perilous choice.  It will allow the taxpayer to ignore the value  and the number of choices with the requirement that once the properties are identified,  the taxpayer MUST acquire 95% of them.   In nearly 30 years of practice this rule has  been used by a client in only one instance.                      © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 13
  • 14. The point to remember is that it does not matter the type of real estate that the  taxpayer owns, it is how the property is used in their hands.  It must be for investment,  commercial or business use.  A single‐family residence is like kind to every other kind of  real property as long as the single‐family residence is NOT personal use property.  These are ALL Like Kind!    © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 14
  • 15. When Section 1031 was first codified in 1921, it was for the benefit of farmers who  objected to paying capital gains tax on their farm property, both real and personal.    Certain items of personal property are exchangeable as long as they fall into the same  asset class or product code.   All aircraft is like‐kind to all other aircraft for instance, but is  not like kind to other items of machinery.  The North American Industry Classification System for Sectors 31‐33 is the best sources for  determining like kind for personal property.    www.census.gov/naics (for a complete description of the allowable categories)   © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 15
  • 16. The Exchange will begin on the day the deed is  conveyed to the purchaser.  The 45 day and 180 day  clock will begin.  Contracts for sale and purchase do not  trigger the beginning on an exchange, it always  happens on the day of the first leg of the transaction.   This is also true for reverse exchanges.   Only Presidentially declared disasters would provide for  extension of these time sensitive dates.            The first step is to engage the Qualified Intermediary to  create a written Exchange Agreement.   The QI is  required to have standing in the exchange and this will  be accomplished with an assignment of the contracts.   Specific guidance will be provided to the Settlement  Agent and the funds will be directed to the QI for the  acquisition of the new property.   Most importantly, the  QI will provide guidance to the taxpayer to avoid the  pitfalls.  Transactions with related parties are  prohibited unless certain rules are followed.          Exchanges can be conducted regardless of whether the  taxpayer is an individual or some form of other entity.   It is important to remember that the same taxpayer  must sell and then buy.  The IRS is tracking the taxpayer  identification number.  Single member LLC’s and  revocable trusts will be disregarded for tax purposes.      © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 16
  • 17. DOES YOUR SITUATION QUALIFY FOR A SECTION 1031 EXCHANGE This tool has been developed to help you quickly identify Section 1031 opportunities? www.section1031.com/PDFs/New PDFs/WhatQualifies.htm Plans for the Money The greatest benefit from capital gains deferral will be obtained by reinvesting all of the cash from the sale of your property. It is possible to extract cash at closing; however, the amount you take will be subject to tax. Amount Invested How did you acquire the property and how long have you owned it? Did you purchase it, did you exchange into it, was it given to you or did you inherit it? The answers to these and other questions will determine whether you have a low or high cost basis, and what your exposure is to Capital Gains Taxe. If the gain exceeds $20,000 then an Exchange should be considered. Mortgage Balance The outstanding mortgage debt is paid off at closing in the same manner as any other closing; and debt paid off must be replaced when the new property is acquired or new cash added to offset any difference. Any debt relief not offset by new cash will result in taxable boot. On Last Two Tax Returns or Vacant Land Your tax return provides the IRS with an audit trail of your past activity. Your rental property must have appeared on Schedule “E” of your return (or the corporate equivalent) if you want to portray your property as held for investment or for use in your Trade or Business. The only exception will be vacant land. How Long Owned Dealers are not permitted to use Section 1031; generally their assets are “held for sale”, not “held for investment”. In order for a property to be considered for long-term capital gain treatment, it must have been owned by you for at least one year. Type of Replacement Property Section 1031 requires that the property be “like-kind”; all real property is like-kind to all other real property. The Like-kind test is more stringent for personal property.   © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 17
  • 18. Choices of Replacement Property Under the simple rules, you may select up to three potential new properties and you can buy any one, two or all three of them. More choices are available, however, the dollar value of the choices is capped at 200% of the value of the old property. Can Meet 45 Day Requirement After the closing of the old or Relinquished Property, you will have 45 days to make your formal identification of Replacement Property choices. No substitutions are permitted after the 45th day. Can Meet 180 Day Requirement After the closing of the old or Relinquished Property, you will have 180 days to acquire the new or Replacement Property. Exchanges must be accounted for within the same tax year; often it is necessary to extend the due date of the tax return to accomplish this task and to get the full benefit of 180 days for a year-end exchange. Third Party Handling of Money Receipt of funds by the taxpayer at closing is not permitted in a Section 1031 Exchange. A Qualified Intermediary must be designated to facilitate this process so that the taxpayer never has constructive receipt of the funds. Relatives and attorneys or accountants that have represented the taxpayer in the last two years are prohibited from acting as the Qualified Intermediary. Have qualification questions? Edmund & Wheeler, Inc. has provided flawless Section 1031 exchanges for over 27 years. In fact, Exchanges are our only business. Contact our offices via phone or email if you have any questions regarding your specific situation. www.section1031.com/PDFs/New PDFs/WhatQualifies.htm   © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 18
  • 19. The Five Most Common Section 1031 Misconceptions Well before delayed exchanges were codified (by IRS) in 1991, all simultaneous exchange transactions of Real  Estate required the actual swapping of deeds plus the simultaneous closing among all parties to a 1031 exchange.  In most cases these types of exchanges were comprised of many of exchanging parties, as well as numerous  exchange real estate properties. Now today, there's no such requirement to swap your own property with  someone else's property, in order to complete an IRS approved exchange. The rules have been refined and ratified  to the point that the current process is much more indicative of your qualifying intent, rather than the logistics of  the Real Estate property closings      There was a time when all types of exchanges had to be closed on a simultaneous (same day) basis, now they  (1031) are rarely completed in this type of format. As a matter of fact, a majority of the exchanges executed are  closed now as delayed exchanges.      Don’t make this mistake. There is a common misconception that “Like‐Kind” is literal.  There are currently 2 types  of properties that qualify as a 'like‐kind':  Property held for investment and/or Property held for a productive use,  as in a trade or business.      This statement is a perfect example of another 1031 exchanging myth. Let me repeat, there are no provisions  within either the IRS Code or the US Treasury Regulations that can restrict the amount and number of real estate  properties that can be involved in an exchange. Thus, in exchanging out of several properties into one replacement  property or the vice versa of selling of one property and acquiring several other properties, are perfectly  acceptable strategies and uses of a 1031.      You can take cash out of a Section 1031 Exchange; however, the cash that you take out will be immediately taxable.    © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 19
  • 20. Section 2 Case Studies & Real-life Examples Contents Hypothetical Example – Pay Taxes/Defer Taxes.......................................................................... 21 Edmund & Wheeler Case Studies................................................................................................. 24 Case Study 1 – Delayed Exchange .............................................................................................. 25 Real-life Example – Trading a Campground for Several Properties ..................................... 26 Real-life Example – 6 Properties for a Dozen Condos ......................................................... 26 Converting Investment Property into Personal Residence ................................................... 27 Case Study 2 – Reverse Exchange .............................................................................................. 28 Real-life Example – Buying a New Property Before the Old Property Sells ......................... 29 Acquire a Rental Property for a Family Member ................................................................... 29 Case Study 3 – Build-to-suit Exchange ........................................................................................ 30 Real-life Example – Commercial Property for Raw Land with Improvements ...................... 31 Case Studay 4 – Delayed Build-to-suit Exchange ........................................................................ 32 Real-life Example – Industry Specific Building on Identified Property .................................. 33 Case Study 5 – Delayed Exchange, Reverse Format .................................................................. 34 Real-life Example – Acquiring Abutting Property to Primary Residence .............................. 35 The Four Simple Qualification Questions...................................................................................... 36   © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 20
  • 21. These two Property Owners have identically valued  properties with identical tax consequences,  however, one chooses to sell and the other chooses  to use The Power of Section 1031, and take an  interest‐free loan from the Federal and State  Government.            These are the assumptions.  The Federal Tax is 15%  and the State Tax is 5%, but past depreciation these  taxpayers have taken will be recaptured at the rate  of 25%.  However, the second Property Owner has  no intention of funding the tax, as a Section 1031  Exchange is planned.  Another assumption is that the  values of the Replacement Properties grow at a  uniform 6% rate per year, without compounding.    After 5, 10 and 15 years we will take a look at each  situation.         OK, here we go.  The two properties both sell for  $300,000, but one Property Owner elects to pay the  tax ($65,000) while the other elects to accept the  interest‐free loan.  They both reinvest, but one has  $65,000 more than the other, and as a consequence,  his investment commands more monthly cash flow.   So the effects of the interest‐free loan are  immediate: The Property Owner who took the loan  earns $325 more per month on his investment than  his tax‐paying counterpart.    © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 21
  • 22. Now let’s look at the situation 5 years out.  Each  owner sells his investment, but again Owner #1 pays  the tax while Owner #2 elects to take a further  advance on the interest‐free loan.  Further, since  more principal was invested, the value of the 2nd  Owner’s investment is worth almost $100,000 more  than the 1st Owner’s.  Granted this difference is pre‐ tax, but read on....          At 10 years, the pattern repeats: Owner #1 pays  taxes again, but Owner #2 accepts a further advance  on the interest‐free loan.  This equity is worth  $145,664 more than Owner #1, and, as a  consequence, it commands $728 more income per  month              We conclude the example here, but you get the idea:  By deferring the tax at the beginning, Owner #2 has  made good use of free government money.  This  investment is now worth $221,044, and  consequently commands a monthly income of  $3296, more than $1056 more per month than  Owner #1's income.      © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 22
  • 23. And here is a summary of the wealth  building effects.  Owner #2's equity is  worth more than $211,044 than Owner  #1's, and has grown by 119% (instead of  49.3%) thanks to the use of the tax‐free  loan.  Further, at this point, let’s pretend  that Owner #2 takes leave of his senses  and decides to pay the tax instead of  exchanging again and again.    The total taxes due from Owner #2 at the 15‐year point are $136,810, which leaves this owner $74,234  ahead of Owner #1 on an after‐tax basis.  This is the true comparison because, after all, Owner #1 was  paying tax all the way through, and Owner #2 was deferring it, by the use of Section 1031.  At the 15th year, Owner #2 has received an  additional $92,779 in cash flow over Owner #1.    Can any sensible investor afford to ignore these  two figures??  Even after the last sale, if Owner #2 decides to get  out the game and pay his taxes, he is still is over  $160,000 ahead of the game!      © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 23
  • 24. Case Studies Over the many years that Edmund & Wheeler has been facilitating Exchanges, we have discovered that  exchanges generally can be described in 5 distinct types. The most common type is Case Study 1 – the Delayed  Exchange. We will be reviewing each case study, along with some real‐life examples of how these Exchanges  work.  Case Exchange Type Description Study 1 Delayed Exchange In this format, the client gets the most common (Existing Property) Direct   type of Section 1031 Exchange.  Format  Delayed/Simultaneous Exchange In this format, property desired by the Exchange (Existing Property) Reverse Format 2 client is parked in a Single Purpose Entity (SPE) until the client's current property can be sold.  (Exchange Last)  Delayed Build-to-suit In this format, the client gets a Section 1031 Exchange Direct Format  3   Exchange and acquires new, improved property, built-to-suit.  In this format, property desired by the client is Delayed/Simultaneous Build- parked in a Single Purpose Entity (SPE) until the to-suit Exchange Reverse Format (Exchange Last)  4 client's current property can be sold. During the parking period, the new property is improved by the SPE to the client's wishes.  In this format, property desired by the client can Delayed Exchange (Existing Property) Reverse Format (Exchange first) 5   be purchased immediately by Client, as Client's old (Relinquished) property is parked in a Single Purpose Entity (SPE) until it can be sold to buyer. www.section1031.com/cases.htm   © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 24
  • 25. CASE STUDY 1 ABDC Delayed Exchange (Existing Property) Direct Format In this format, the Client (A) gets a Section 1031 Exchange between steps 3 and 7 assuming all of the rules have been followed. This is the most common type of exchange.  The Exchange Agreement with Edmund & Wheeler, Inc. which governs the overall transaction. This document MUST be in force before the closing. The Purchase and Sale Agreement to sell the Relinquished Property. This step may take place before Step 1 (the only out- of-sequence exception).  The closing of the Relinquished Property; if several are involved, the first in chronological order. In this step, the deed to the property is given to the Buyer.  Rather than going to the Exchangor, the Buyer's funds are used to pay all of Exchangor's expenses (including mortgages, if any), with the NET going directly to a money center bank into a separate, interest- bearing account established in the Exchangor's name and Social Security number.  This is an interactive step encompassing all communications post-closing with the Exchangor and Edmund & Wheeler, Inc. Included are the 45-day Identification Letter, instructions on how much of the account to be expended on particular properties, and final approval to close on the final choice(s).  These are the precise instructions to Exchangor's attorney, bank or Title Company for the closing of the Replacement Property, and the wire transfer of approved funding.   This is the Exchangor's receipt of the direct deed from the owner of the Replacement Property (C); the Exchangor achieves a Section 1031 Exchange between Steps 3 and 7, where in Step 3 a deed is given and in Step 7 a deed is received, and in between the Exchangor had no control (or Constructive Receipt) of funds.      © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 25
  • 26. This Exchangor sold one large lakefront property and  proceeded to use the next 45 days driving up and down  the East Coast selecting Replacement Properties. He was  in the enviable position of being able to identify more than  three Replacement Properties (the simple rule). He used  the 200% rule (to identify as many properties as he  wanted as long as the total value of the properties  identified did not exceed twice the value of the  Relinquished Property). In the end, he acquired sixteen  new properties from Maine to Florida, many of them  single family (rental) residences, including two new  campgrounds.   This Exchange allowed him to diversify his portfolio, generate significant cash flow from his new properties, and pay no  capital gains tax. As they say in the business "one happy camper!" If he determines that one or more of his selections  doesn’t satisfy his investment objectives, then after a year or two, he can exchange again.   We are currently working with a client to acquire a  significant piece of commercial real estate in New England.  The client is in the process of selling six separate pieces of  property in order to aggregate sufficient funds to make the  new Replacement Property purchase. The client has been  extremely careful (with our guidance) to time his sales and  the new purchase all within a 180 day time frame. This is  key to the success of the Exchange due to the fact that he  will acquire not just one piece of property, but rather over  a dozen condominiums. You will recall that you have two  basic rules when it comes to identifying your Replacement  property choices, the Three‐Property Rule and the 200%  Rule. This Exchange is an example of yet a third method of identifying Replacement property. It allows the client to acquire  an unlimited number of properties, without regard to value or number as long as he acquires 95% (FMV) of what he  identified.  This can be a little nerve‐racking for the investor and it pays to have a back‐up plan.    © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 26
  • 27. Our client exchanged out of a three unit building that had been held for many years.  In  preparation for retirement, the client acquired a Florida rental property.  After renting  the Florida property for two years, our client will convert the use from rental to personal  and move into the property as a primary residence.  There isn’t any prohibition against  converting business/investment property to personal use.     Be aware that upon the sale of the property, the client will NOT be entitled to the full  Section 121, personal residence exclusion of $250,000/$500,000.  Effective January 1,  2009 the number of years of non‐qualified residential use is divided by the total number  of years owned to produce a pro‐rated exclusion.  For example, if you own a property for 10 years and you rented it for the first two years  of ownership and later moved into it and made it your primary residence, then you would  only be eligible to exclude 80% of the sale, meaning you would owe gains on 20% of the    © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 27
  • 28. CASE STUDY 2 ACBD-Delayed/Simultaneous Exchange (Existing Property) Reverse Format - Exchange Last In this format, property (C) desired by the client (A) is parked in a Single Purpose Entity (SPE) until client's current property (A) can be sold. Section 1031 Exchange occurs between steps 7 and 11.  The Exchange Agreement with Edmund & Wheeler, Inc. which governs the overall transaction. This document MUST be in force before the closing. Since the Replacement Property will be purchased (and Parked) before the sale of the Relinquished Property, a source of funds for the purchase must be arranged. This can be the Exchangor, or their bank. If a bank, the Exchangor will be expected to provide a guarantee.   As Edmund & Wheeler, Inc. is the signer on the Qualified This is the loan to the Single Purpose Entity (which Escrow Account, it causes the balance to be paid to the EAT the IRS has renamed an Exchange Accommodation in exchange for its deed for the Replacement Property executed Titleholder (EAT)) that will buy the Replacement Property in favor of the Exchangor. from its owner (C) and hold it until the Relinquished Property (A) can be sold to the Buyer (B). Before the deed can be issued, however, the EAT must pay off (or pay down to the extent of available cash) the loan This is the actual purchase of the Replacement made to it at Step 3, above. Property from its owner (C). This is the Exchangor's receipt of the direct deed from At this step, the Entity (and not the Exchangor) the EAT as owner of the Replacement Property; provided the becomes the legal owner of the Relinquished Property. deed is delivered to the Exchangor on or before the 180th day. The 180-day Exchange Period commences. The Exchangor achieves a Section 1031 Exchange between Steps 7 and 11, where at Step 7 a deed is given and at The Relinquished Property goes under Agreement of Step 11 a deed is received, and in between the Exchangor had Sale to Buyer (B). no control (or Constructive Receipt) of funds. The Exchangor gives Buyer (B) a deed, and the transaction closes; this step must occur before the 180th day, with enough margin to complete Steps 8-11. Rather than going to the Exchangor, the Buyer's funds are used to pay all of Exchangor's expenses (including mortgages, if any), with the NET going directly to a money center bank into a separate Qualified Escrow Account established in the Exchangor's name and   Social Security number. © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 28
  • 29. George’s favorite Exchange was an "acquire first,  reverse exchange". Sounds complicated, but it’s not.  Our client had negotiated the purchase of a significant  new property but had been unable to sell a piece of  existing property in time to do the deal. Rather than  jeopardize the purchase, we created a single purpose  entity (SPE), in this case, a Massachusetts trust, to  acquire the new (parked) property.   Edmund & Wheeler, Inc. was engaged to create the  new entity, hold the property until the old property  was sold and the proceeds are available to acquire the  "parked" property.   The Exchangor funded the purchase with his own and other bank resources. Once the old property was sold, the new  property was deeded to the Exchangor. Since it is not permissible to own the old and new property at the same time, this  strategy accomplished the Exchangor’s desired outcomes, again without capital gains tax.  This is a case where you can benefit your own family  without paying capital gains tax.  Our client sold a  multi‐family rental property that had been owned for  many years and rented to college students.  The cash  flow was OK but there was deferred maintenance that  was starting to affect the market price of the property.     Our client negotiated a sale on the multi‐family  property and engaged us to handle the transaction as a  Section 1031 Exchange.  The client’s daughter had  moved to a suburb of Chicago and wanted to acquire a   property that would be a safe secure primary residence and provide her mom with a nice place to visit the grandchildren.   A property was identified and the exchange funds were used to acquire the new suburb property.  As long as the property  remains as rental property in the hands of the client and fair market rent is charged, then this strategy is perfectly  acceptable.  The property can be gifted off in increments of $12,000 per person, per year.         © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 29
  • 30. CASE STUDY 3 ACBD-Delayed, Build-to-Suit (or Improvement) Exchange Direct Format In this format, client (A) gets a Section 1031 Exchange between steps 3 and 12 and acquires new, improved property. All rules MUST be followed.    The Exchange Agreement with Edmund & Wheeler, Inc. which governs the overall transaction. This document MUST be in force before the closing. The Purchase and Sale Agreement to sell the Relinquished Property. This step may take place before Step 1 (the only out-of- sequence exception). The closing of the Relinquished Property; if several The vendors begin work, and soon enough, bills begin to are involved, the first in chronological order. In this step, arrive, addressed to the EAT, the legal owner of the property. the deed to the property is given to the Buyer. This step starts the 45-day Identification Period and the 180-day All invoices are presented to the Exchangor for approval Exchange Period. for payment from the Account. Rather than going to the Exchangor, the Buyer's Upon such approval, further advances are made by the funds are used to pay all of Exchangor's expenses QI to the EAT to cover each payment. (including mortgages, if any), with the NET going directly to a money center bank into a separate, interest- bearing Qualified Escrow Account established in the The vendors are timely paid, until funds are exhausted. Exchangor's name and Social Security number. This is the Exchangor's receipt of the direct deed from The Exchangor has identified property C (property the EAT as owner of the Replacement Property; provided the needing improvements) as the Replacement Property; at deed is delivered to the Exchangor on or before the 180th day this Step, Edmund & Wheeler, Inc. causes the necessary (as adjusted), the Exchangor achieves a Section 1031 purchase price for this property to be advanced to the Exchange between Steps 3 and 12, where at Step 3 a deed is Single Purpose Entity (which IRS has renamed an given and at Step 12 a deed is received, and in between the Exchange Accommodation Titleholder (EAT)) which has Exchangor had no control (or Constructive Receipt) of funds. been formed to own and improve the identified Replacement Property. This is the closing for Property C; this Step is the funding; and  This Step is the legal acquisition. At (or hopefully well before) this time, Exchangor engages Contractors and Materialmen to effectuate the desired improvements. © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 30
  • 31. This is a classic "build‐to‐suit" transaction. Our client sold a commercial property and  directed the proceeds of the sale by virtue of an Exchange Agreement to us as  Qualified Intermediary. We created a single purpose entity to conduct the business,  in this case a NH corporation. We then purchased, in the name of the new  corporation, a piece of raw land (which had been subdivided and permitted) using  the exchange proceeds. The client delivered specific instructions for the type of  building to be constructed on the site and directed who the contractor would be to  perform the work. We made a series of progress payments based on the work in  place and the "ok" to pay by the client.  Once all of the sale proceeds of the Relinquished Property were exhausted, the new  property was deeded to the client and the corporation was closed and tax return  filed on its behalf. The entire process was concluded within 180 days.    © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 31
  • 32. CASE STUDY 4 ACBD-Delayed/Simultaneous Build-to-suit Exchange Reverse Format - Exchange Last In this format, property (C) desired by the client (A) is parked and improved in a Single Purpose Entity (SPE) until client's current property (A) can be sold. Section 1031 Exchange takes place between steps 10 and 14.  The Exchange Agreement with Edmund &   Wheeler, Inc. which governs the overall transaction. This document MUST be in force before the closing. Since the Replacement Property will be purchased (and Parked) before the sale of the Relinquished Property, a source of funds for the purchase must be arranged. This can be the Exchangor, or their bank. If a bank, the Exchangor will be expected to provide a guarantee. This is the loan (and Line of Credit) to the Single The Exchangor gives Buyer (B) a deed, and the Purpose Entity (which the IRS has renamed an Exchange transaction closes; this step must occur before the 180th day, Accommodation Titleholder (EAT)) that will buy the with enough margin to complete Steps 11-14. Replacement Property from its owner (C) and improve it and hold it until the Relinquished Property (A) can be sold Rather than going to the Exchangor, the Buyer's funds are to the Buyer (B). used to pay all of Exchangor's expenses (including mortgages, if any), with the NET going directly to a money This is the actual purchase of the Replacement center bank into a separate Qualified Escrow Account Property from its owner (C) by the EAT. established in the Exchangor's name and Social Security number. At this step, the EAT (and not the Exchangor) becomes the legal owner of the Relinquished Property. The As Edmund & Wheeler, Inc. is the signer on the Qualified 180-day Exchange Period commences. At (or hopefully Escrow Account, it causes the balance to be paid to the EAT in well before) this time, Exchangor engages Contractors and exchange for its deed for the Replacement Property executed in Materialmen to effectuate the desired improvements. favor of the Exchangor. The vendors begin work, and soon enough, bills begin Before the deed can be issued, however, the EAT must to arrive, addressed to the EAT, the legal owner of the pay off (or pay down to the extent of available cash) the loan property. made to it at Step 3, above. All invoices are presented to the Exchangor for This is the Exchangor's receipt of the direct deed from approval for payment from the Line of Credit. the EAT as owner of the Replacement Property; provided the deed is delivered to the Exchangor on or before the 180th day, the Exchangor achieves a Section 1031 Exchange The vendors are timely paid, until the predetermined between Steps 10 and 14, where at Step 10 a deed is given and match point has been obtained. at Step 14 a deed is received, and in between the Exchangor had no control (or Constructive Receipt) of funds.   The Relinquished Property (A) goes under Agreement of Sale to Buyer (B). © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 32
  • 33. Our client required an industry specific building to be constructed on property that he  identified.  We created a single purpose entity to acquire the targeted land and then  began construction of the facility.  The construction was completed at day 135 and the  client moved his existing business in to the facility.  Once the former building was  vacant, it could be shown to prospective buyers and sold before day 180.        © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 33
  • 34. CASE STUDY 5 Delayed Exchange (Existing Property) Reverse Format - Exchange First In this format, property (C) desired by the client (A) can be purchased immediately by Client (A), as Client (A)'s old (Relinquished) Property (A) is parked in a Single Purpose Entity (SPE) until it can be sold to buyer (B). Section 1031 Exchange takes place between steps 3 and 6.  The Exchange Agreement with Edmund & Wheeler, Inc. which governs the overall transaction. This document MUST be in force before the closing. In consultation with the QI, the Exchangor determines what the NET proceeds would have been had the Relinquished Property sold that day; this is the cash amount of a loan to be made by the Exchangor to   the Special Purpose Entity (Exchange Accommodation Titleholder (EAT)) that will buy the Relinquished Property from the Exchangor (A) and hold it until this property can be sold to the Buyer (B). In this Step, the Exchangor executes a deed to the Relinquished Property to the EAT. Not shown is a mortgage back to the Exchangor to provide for security. The 180-day Exchange period commences. The exact amount of the loan funds in Step 2 are turned over to Edmund & Wheeler, Inc. as QI. Since the Exchangor has identified Property C as the Replacement Property, the QI is instructed to fund its purchase. This is the Exchangor's receipt of the direct deed from the owner of the Replacement Property (C); the deed is delivered to the Exchangor almost immediately after the Steps above; the Exchangor achieves a Section 1031 Exchange between Steps 3 and 6, where in Step 3 a deed is given and in Step 6 a deed is received, and in between the Exchangor had no control (or Constructive Receipt) of funds. Exchangor's former property (the Relinquished Property) is now legally owned by the EAT, however, the Exchangor is expected to continue the marketing effort and to approve all offers. When Buyer (B) is found, the EAT executes a deed to the Exchangor's Relinquished Property in favor of this person. The Buyer (B) pays the purchase price to the EAT, which uses the funds to: Payoff the bank (if any); and To repay the initial loan from the Exchangor.    © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 34
  • 35. Our client had an opportunity to acquire abutting property to his primary residence.   The new property was vacant land but included more than 500 feet of shore front land.   The client arranged for a borrowing sufficient to acquire the new property but since he  couldn’t own the new property and the old property at the same time, he sold the old  property to a single purpose entity for the amount of money that he had just borrowed.  The old property deed was placed in the name of the entity.  Next, the entity passed the loan funds to Edmund & Wheeler which in turn gave them  to the Seller of the shore front land, and this Seller deeded our client the property.  Then the client went to work to sell existing property that was held as a rental property  by the entity in Florida.  Florida sold within 180 days and the Buyer’s funds were passed  though the exchange to pay down the debt on the new shore front property.     © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 35
  • 36. Now that you understand all of the technical aspects of  Section 1031, it’s time to sift all of this information into  an easy to understand format to help you identify  exchange opportunities.    Since we have learned that only certain property  qualifies for exchange treatment, we want to  understand if the property has had personal use, been  used for qualified purposes and the transaction does  not contain items that are not exchangeable.       © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 36
  • 37. This will helps us understand the tax basis of the  property in the client’s hands.  If we discover that the  property was acquired via a previous exchange then it  will almost certainly need to be exchanged again.   The property should have been owned for not less than  one year (need long term tax treatment qualification).    Clients often fail to understand that stepped  transactions require special care in Section 1031  transactions.  The better informed we are at the  beginning of the process, the better result at the  conclusion of the transaction.  Right‐sizing the transaction is important for  the desired results.     Understanding the client’s objectives is key to advising  them on the correct strategy to undertake.   Going  even or up in value will avoid taxable “boot” but if the  client wants some cash, it is perfectly acceptable; they  will put that cash at risk of taxation and not the entire  transaction.   Helping them select the right identification rule to  follow is equally important to the success of the  exchange.      © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 37
  • 38. Section 3 Alternate Exchange Opportunities Contents Tenants In Common (TIC) ............................................................................................................ 39 Why use a TIC? .................................................................................................................... 39 How does it work? ................................................................................................................. 40 Direct ownership vs. a TIC .................................................................................................... 41 Case Study ............................................................................................................................ 42 TIC Benefits .......................................................................................................................... 43 Securities TICs vs. Real Estate NNN and Master Leases .................................................... 45 Umbrella Partnership Real Estate Trust (UPREIT) ....................................................................... 46 Section 721 Exchange Overview .......................................................................................... 46 UPREIT Benefits ................................................................................................................... 47 Oil & Gas Leases .......................................................................................................................... 48 O&G Characteristics ............................................................................................................. 48 O&G Benefits ........................................................................................................................ 49 Structured Sales ............................................................................................................................ 50 The Structured Sale in Real Estate Transactions ................................................................. 51 The Structured Sale and 1031 .............................................................................................. 52 The Structured Sale and selling a business ......................................................................... 53 Structure Sale Diagram ......................................................................................................... 54   © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 38
  • 39. Of the alternative Exchange strategies, the Tenants‐In‐ Common vehicle has become increasingly popular in  the past few years. TICS offer the clients the  opportunity to passively invest in a Grade A Real Estate  Offering, resulting in monthly payments without the  hassles of owning and managing typical investment  real estate.              Since 2002 the IRS has recognized TIC properties as  eligible for Exchange under Section 1031. Since that  time, hundreds of spectacular properties have been  purchased by TIC sponsors and sold to investors that  would not typically own this type of real estate.              Many investors have owned and managed investment  real estate on their own for years, all the while dealing  with “the terrible T’s”. Many investors wish to keep a  portion of their portfolios in the real estate class, but  are very weary of dealing with the management  hassles!  TICs provide all of the benefits of owning commercial  real estate, with many advantages without dealing    with “trash, toilets and tenants”.  © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 39
  • 40. As a fractional ownership, a group of owners (not  to exceed 35) can take ownership in Grade A  investment property.  A check is sent each month with the appropriate  share of the revenues generated by the property,  and the properties are typically managed by the  best property managers available in the area.  Along with the positive aspects of owning a TIC,  investors are also subject to “cash calls” should the  properties expenses exceed its income.  TICs are purchased in much the same way  as any property. With the primary  difference being that the property is  identified well in advance, and the  ownership position is reserved until  closing.  Note that there is also non‐recourse  financing involved, with all the benefits  associated with Exchanging with debt.  These are a sampling of the properties that have  been made available as TICs in the past few  years.   Since 2002 there have been hundreds of these  types of properties purchased by TIC investors,  and to date, the vast majority has performed at  or above expectations.       © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 40
  • 41. TICs can provide an unprecedented level of diversity by spreading a fractional real estate investment throughout multiple  geographies, classes and areas. Many clients have Exchanged whole ownership in one type of building located in one area, to  many types of buildings in many areas!  The chart below outlines some similarities, but more importantly some key differences in direct ownership vs. TIC ownership.   Note arrows.    © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 41
  • 42. In order to demonstrate the mechanics and the  benefits of Exchanging into a TIC property we  present this case study which has been derived  from the performance of a typical TIC  investment.  In this study, a $25M Grade A property was  purchased by one of the many experienced TIC  sponsors. The TIC sponsor pre‐arranges all of  the financing, and in this case the Equity/Debt  ratio is 30/70.        We will assume a typical initial investment of  $500K, which a fairly typical amount for most  small to mid‐level investors.  We are assuming this investor is purchasing  6.7% of the entire property.              With fairly conservative distributions, we can  see how this investment has provided a strong  return with ABSOLUTELY NO MANAGEMENT  REQUIREMENTS AT ALL.              © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 42
  • 43. 1  Freedom from day‐to‐day  management responsibilities. With no more property to manage, you have  more leisure time to relax or pursue other  Interests. In addition, because someone else is  managing the property for you, there are no  geographical limitations. You are free to invest  in real estate markets nationwide.     2  Professional people managing the property on your behalf.  The typical Exchange Equity deal is on a long‐term lease to a Credit Rated Tenant (A+‐BBB) who will have  strong financials and extensive experience in the management and upkeep of the property. This is the  underpinning of the approach of a typical TIC sponsor. This allows them to examine offerings in all sectors,  types, and locations of real estate. In addition, because many sponsors co‐invest in the properties that they  sponsor, they have a vested interest in the performance of the properties. You can relax because it is the  tenant’s responsibility to maintain the property, and for the sponsor to collect the rents, service the  mortgage (if any), and handle all of the other asset management responsibilities.  3  Increased monthly cash flow.   Your investment in a TIC interest provides you with a check every month. The cash flow that owners typically  receive generally starts at 6.25‐8% per annum. Because exchangors take on a new depreciation schedule,  however, cash distributions are typically 50‐100% tax sheltered, depending upon asset class and leverage.  The equity appreciation in well‐located real estate speaks for itself.  4  Properties are identified and researched for you.  TIC sponsors do all of the work of locating, negotiating to purchase, providing all of the required due  diligence, arranging for the financing, and other work necessary to acquire the new investment property and  set up the TIC program. A wide range of TIC properties exist for sale, in many different asset classes and  geographical locations, so with the help of your TIC sponsor, you will be able to easily identify possible  properties within the requisite 45 days, and acquire them within 180 days. In many cases, TIC sponsors offer  a "back‐up" in case your preferred purchase becomes unavailable for some reason.   5  Invest in larger, safer, higher‐quality institutional properties.   As a TIC, you end up with a larger, higher‐quality building leased to Credit Tenants with greater financial  strength and stability than any other type of real estate investment typically available to individual investors.    © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 43
  • 44. 6  Benefit from multiple tax advantages.   Not only can you defer capital gains taxes until death, at which point they are forgiven, but you also  can gain additional tax advantages through a new depreciation schedule and in doing so typically  shelter 50‐100% of your cash flow.  7  Gain non‐recourse debt.   Accredited investors assume institutional grade, pre‐arranged, non‐recourse (no personal guarantee)  financing with easy approval. You can invest in properties that have no debt, or in ones with up to  75% leverage.  8  Start investing with as little as $50,000.   TIC investments have a much lower minimum investment than sole ownership allowing for greater  flexibility. Variable investment sizes can start as low as $50,000 and can be structured to match an  owners’ equity and debt requirements.   9  A first‐class way to diversify your assets.   Large net proceeds may be split among several properties, and so invested in several different  markets and asset classes.  10  Preserve your capital by investing in properties that continue to appreciate.   Profits can be locked in by selling out of highly appreciated markets and then re‐investing 100% of  the net proceeds from those sales into growth markets.  11  Simplify your estate planning.   TIC can simplify wealth transfer and estate issues. After all, it’s much easier to divide a monthly check  among heirs than it is to divide a building.          © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 44
  • 45. Comparison of Tenant‐In‐Common Structures Security Interest   versus Real Estate NNN & Master Lease   Feature TIC as TIC as TIC as Security Real Real Estate Estate (NNN) (Master Lease) Full Disclosure of Fees and Transaction Yes Yes No Costs Complete Reporting Transparency Yes Yes No Full Disclosure of Terms of Purchase & Yes Yes No Risk Factors Professional Asset Management Yes Yes Yes Master Lease Default Remedies Yes Yes No IRS Opinion for Rev Proc 2002-22 Yes Yes Yes IRS Opinion for Rev Proc 2004-86 Yes Yes Yes Property Management Conflict Yes No Yes Compliance with IRC Section 1031 Yes Yes Yes Downside Protection No No No Investor Control of Management Yes Yes No Debt (Non-recourse) with Unanimous Yes Yes Yes Consent Accredited Investor Status Required Yes No No Highly Regulated Sales Process Yes No No   © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 45
  • 46. The Omnibus Budget Reconciliation Act of 1993  in the U.S. created Umbrella Partnership REITs  (“UPREITs”) As opposed to a traditional REIT  where real estate was directly owned, in an  UPREIT structure, a REIT could own a controlling  interest in an operating partnership (“OP”) that  owned the real estate.    This structure allows property owners to benefit  from tax deferrals when exchanging property  interest for units in an OP because an exchange  of property interests for OP units will generally  not represent a sale for tax purposes.            The units of OP could later be converted to REIT  shares (a taxable event) when the tax benefits of  such conversion were the greatest, thus  deferring capital gains tax.                Section 721 allows an investor to actually  contribute a property into a Partnership.   In exchange, the investor receives OP shares  which are then converted to REIT shares.  Please note, that once an investor receives REIT  shares, they are securities, and follow the same  regulations as such. Also, you cannot do any  further exchanges with this type of vehicle.    © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 46
  • 47.  Pay no capital gains tax or depreciation recapture tax   Upgrade property holdings into institutional quality real estate   Eliminate “hands‐on” property management responsibilities   Diversified among various properties across the country   Competitive monthly/quarterly cash flow distributions   No monthly mortgage obligations due to “non‐recourse financing”   Removes or minimizes real estate holdings from taxable estate    Capital gains tax is forgiven or “stepped up” at the death of investor   “OP” units may be transferable, divisible or gifted   “OP” units may become liquid assets upon conversion    © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 47
  • 48. Section 1031 classifies an investment in an Oil  and Gas Production working interest and  Royalty Interest as "like‐kind" for 1031  exchanges. A working interest is a leasehold  interest which allows the lessee the right to  search for and produce Oil and Gas on a parcel  of land and receive a portion of the proceeds of  the Oil & Gas produced. Each fractional owner  of an offering has the same rights as a single  owner and can subdivide or offer for sale their  ownership interest at any time on the open  market.   Liquidity  There is an active secondary market for  established Oil and Gas Production to sell  directly to investors or by auctions specializing  in Oil and Gas Production based on projected  production and the commodity prices.    Life of Production   Long term projected production with proved  reserves supported by qualified third party  reports.    Annual Return  Average payout of 15% to 18% per annum over  the term. This payment must be considered as  return of investment as well as return on  investment as the future value of the  investment will be zero when the production is  completed.  Tax Treatment    Income is eligible for tax free depletion allowance of approximately 15% which is not charged back upon the future  sale or 1031 exchange of the investors "fractional interest".  Diversification  Long term management free investment with secure cash flow with a wholly‐owned interest with the investor  controlling the timing and exit strategy.   Valuation  There are no drilling risks in Oil and Gas Production. Investments are valued on the amount of potential production and  the price of the commodity. Prices will increase and decrease and therefore payouts will vary. Over the long term  growth should provide an ideal inflation hedge.    International  Unlike real estate Oil & Gas is a Global commodity that is not solely dependent on the US economy and interest rates.      Closing  Quick and economic closing.  © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 48
  • 49. One of the many advantages of O&G is that, unlike buying a building, an energy asset  purchase can often be tailored to the exact valuation required for your exchange.  In  addition, many energy replacement property options offer a much lower minimum  investment requirement than many traditional real estate or Tenant In Common (TIC)  investments.   Under the provisions of Section 1031, oil and gas assets are considered "like kind" for  all of the following types of real property: commercial properties, mines and quarries,  multi‐family dwellings, residential rental properties, restaurants, timber and  timberland, warehouses and undeveloped land. Thus, oil and gas properties are often  used as replacement property for real estate and other investments to defer capital  gains.    © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 49
  • 50. When someone is selling a business, professional practice or real estate, many  individuals in these and similar financial situations would like to liquidate their  investment without having to recognize the entire profit as taxable income in the year  of the sale. Instead of taking a lump sum, the seller can now design a stream of income  to meet his or her individual needs.   By making the sale and having part of the proceeds payable over  time, the seller can  use the payment proceeds as a source of income and may be able to recognize the  taxable gain as the installment payments are received or deemed received.  Enables a 1031 Rescue – in the event a seller is unable to identify suitable replacement  property for their 1031 exchange, a structured sale can be executed as a backup plan  prior to the close of escrow.   However, this option is only available if the original sales contract contained wording  allowing for the possibility of a structured sale, and if the structured sale's contracts  are signed before the close of escrow. (As a precaution, every sales contract should  include such wording. Contact us for proper wording to include this possibility in your  sales contract.)      © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 50
  • 51. Using a Structured Sale   for Real Estate Transactions  A “structured sale” is a tax deferral strategy for sellers of real estate. It is an improved  version of traditional “installment sales.” It allows the seller to take advantage of tax  benefits and income security that were not previously available.  In a structured sale  the seller is allowed to spread their capital gains tax liability over a span of years, while  receiving guaranteed payments.  Benefits   Defer capital gains taxes to the year you receive payments    Earn pre‐tax guaranteed rate of return on principal    Set up payment stream to your liking    Payments guaranteed by ALLSTATE   Structured Sales Examples:  Home owner sells their residence for a large gain   Homeowner sells house for $2,000,000. Original purchase price was $500,000.  After a  $500,000 exclusion, they are left with a $1,000,000 gain.  Instead of incurring a large  capital gains tax at the time of sale, the seller elects to set up a guaranteed stream of  income.  The seller now can structure all or a portion of the remaining $1,000,000 and    only pay taxes as they receive payments.  This is perfect for supplementing retirement.   © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 51
  • 52. Clients selling an income property  Client wants to get out of the “landlord” business but requires the steady stream of income  that the tenants provide.  By using a structured sale, the owner can set‐up his structure to  mirror his former income, all the while deferring his capital gains.  Investor that is not interested in 1031 exchanges and   just wants to get out of the market  For those clients who do not want to utilize the 1031 option, a structured sale is the perfect  alternative. Like a 1031 exchange, a structured sale will defer capital gains tax, but the  investment is an annuity, not a “like‐kind” property exchange.   Farmer selling his land to developer  Many farmers are hesitant to sell their land to a developer because of huge capital gains  liability and uncertainty about how to invest the proceeds. Structuring a portion of the  transaction can be the “little extra” that makes the deal happen. A guaranteed income  stream, resulting in continuation of income and deferral of capital gains are all potential  benefits to the farmer.  Home owners looking to down‐size their residence   Many homeowners sell their property and downsize in order to take a profit, retire, or re‐ locate to a less expensive market. They can structure their profit to match their mortgage on  their new home and defer capital gains.  If they are retiring, structure plans can be set up to  pay a guaranteed income for the rest of their life.  A structured sale should always be identified  up‐front in the Exchange Agreement as an  alternate strategy.   A structured sale can also be used to arrange  payments for any proceeds of the sale that are  not used to purchase replacement property  (boot). This will allow full tax deferral at the  time of the Exchange!      © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 52
  • 53. Selling a business can be a harrowing experience. Often times, sellers have worked  their entire professional career in building their businesses. In many cases, these  business assets represent the largest portion of your client’s financial assets.  Business buyers invariably will seek owner financing when negotiating terms on a  potential business purchase. While owner financing can assist in closing the deal, there  are inherent risks associated with carrying paper on a business. Namely, if the buyer  should default, then the income stream stops and the seller then gets his business  back.  In most cases, this is the last thing a seller wants.  Typically, when a seller is asked to carry paper, an installment sale is set up. As  discussed, this can be risky business. A much safer alternative is to set up a structured  sale whereby the seller is guaranteed his payments regardless of the future outcome  of the business.   Structured sales also provide an exchange vehicle for those business owners who want  to exit the real estate class in their portfolios, while providing a steady, management  free income stream for the rest of their lives.  Note that once a client exchanges into a structured sale, he cannot exchange again!    © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 53
  • 54. Assuming the assets being sold qualify for reporting on the installment  method, here's how the process would typically work:   1. The seller enters into an installment sale agreement under which the buyer  promises to make periodic payments for a stated number of years. The seller  is NOT agreeing to take note from the buyer, rather delay his receipt of cash,  and to  defer capital gains  2. The buyer assigns his or her periodic payment obligations to an assignment  company.   3. The assignment company funds the payment obligation by purchasing an  annuity from an insurance company.  4. The insurance company begins making the payments to the seller as agreed to  under the terms of the sale and issues an agreement to pay on the  performance of the assignment company.       © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 54
  • 55. How Do You Summarize 54 Pages?       Section 1031 is an interest free loan from the government.  Section 1031 is used in less than 10% of the transactions that it should be!  Real Estate Professionals owe it to their clients to understand this powerful tool!  More commissions. More Commissions. More Commissions.  Section 1031 is about Relocation and Reallocation of assets without paying capital gains tax!  Any real property can be exchanged for any other real property!  Section 1031 can be used to dramatically increase the value of holdings by leveraging Uncle Sam’s money.  Ask the 4 Questions: 1. What’cha got? 2. Howd’ya get it? 3. What else ‘ya got? 4. What’cha want?  Nearly every taxpaying entity qualifies for a Section 1031 Exchange!  Personal property can also be Exchanged. “Like-kind” is literal!  There are replacement options available for Section 1031, understand them! o Tenants-In-Common - Management free real estate investments in Grade A properties o UPREIT - Exchange into a real estate investment trust. o Oil & Gas - A timely alternative to owning real-estate with the same benefits and flexibility. o Structured Sales - An annuity based “paycheck” for failed exchanges and business transfers.     © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 55
  • 56. Section 1031 Glossary  Section 1031 Exchange   This very simply is a Section 1031 Tax Deferral which permits taxpayers to reinvest the proceeds from the sale of  property held for investment or business purposes into another investment or business property, and defer capital  gains tax that would otherwise be due on the initial sale.   Adjusted Basis   The original basis plus any improvement costs minus the full depreciation on the property.   Agreement for Transfer   Purchase agreement, offer and acceptance, sale agreement, earnest money agreement, real estate contract or  other contract contemplating the purchase or sale of real property.  Boot   This is the property the taxpayer receives in the exchange which does not qualify as “like kind" property. Cash  proceeds are the most common form of boot and a boot is subject to taxation.   Capital Gain   The capital gain is calculated as follows: total selling price of the relinquished property, less exchange expenses,  less the relinquished property’s adjusted basis. The adjusted basis is the original cost, plus the cost of capital  improvements, less depreciation or cost recovery deductions. Capital gains may be subject to depreciation  recapture and other rules of the IRS.   Construction Section 1031 Exchange   You may even purchase replacement property that is not yet built, provided that the improvements on the  property are completed prior to the expiration of the 180 days (which can be very difficult). In a Construction  Section 1031 Exchange, the property is held by a specially formed Single Purpose Entity called the EAT "Exchange  Accommodation Titleholder". A Construction Exchange generally has greater complexity and fees than a Section  1031 Exchange.   Constructive Receipt   This is a term that refers to the Section 1031 Exchangor having unrestricted control of the equity from the property  sold and a Constructive Receipt will invalidate a tax deferred Section 1031 exchange.   Contract Section 1031 Exchange   A "Contract Exchange" is the tax‐deferred exchange of: The Buyer’s ownership in a Sales Contract on real property,  for different real property, or for a contract or option on different real property; or the Option Holder’s exchange  of an Option to purchase real property, for different real property, or for an option or contract on different real  property. Essentially, a "contract exchange" is a Section 1031 exchange of an open option to purchase, or an open  Sales Contract, rather than a Section 1031 exchange of the underlying real estate itself.   Cooperation Clause   A clause that is added to the purchase on sales agreement requiring the person who is not the Exchangor to use  their best efforts to assist the Exchangor in consummating a Section 1031 tax deferred exchange.  Exchange Accommodation Titleholder  The Exchange Accommodation Titleholder "EAT" is a specially formed LLC used during a Construction Exchange or  a Reverse Exchange.     © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 56
  • 57. Exchangor   The actual owner of the investment property looking to make a tax deferred exchange. Unfortunately an  Exchangor cannot be an owner that wishes to defer capital gains tax on a second home. See "like kind" property  definition.   Exchange Funds Account a.k.a. the Qualified Escrow Account   The account established by the qualified intermediary (QI) to hold the exchange funds.  Exchange Period   A 180 day window in which the Exchangor has to complete a tax deferred exchange. During the Exchange Period  there is a 45 day Identification Period in which the Exchangor must identify which property or properties that will  be purchased. Both time periods begin on the day of the sale of the Relinquished Property.  The Fair Market Value   This is likely selling price as defined by the market at a specific point in time.  Forward Delayed Exchange   A type of exchange which occurs when a property is sold "Relinquished Property" and another property is  purchased "Replacement Property" within 180 days following the sale of the Relinquished Property.   Identification Period   The time period that begins upon the "close of escrow" of the Relinquished Property. During this 45‐day period,  the Section 1031 Exchangor must identify the Replacement Property in order to continue with the Section 1031  exchange transaction.   Identification Letter   An Identification Letter  form is used to identify potential Replacement property or properties.   IRS Section 1031 Tax Code   Internal revenue code section 1031.  "Like‐Kind" Property   The properties involved in a tax deferred exchange must be similar in nature or characteristics. "Like kind" real  estate property is basically any real estate that is NOT your personal residence or NOT a second home.   The Napkin Rule   You must buy a Replacement Property of equal or greater value to the Relinquished Property in order to  completely defer the applicable capital gains tax. If you purchase a property of lesser value, you will be responsible  for any tax on the difference. You must use all the cash proceeds from the sale on your purchase in order to  completely defer the applicable capital gains tax. If you don’t use all your proceeds on the purchase, you will be  responsible for any tax on the difference.  Original Basis   This is the purchase price of a property and it is used to calculate capital gains or losses for tax purposes.    Personal Property   Any property belonging to the Section 1031 Exchangor that is non real estate related.   Qualified Escrow Account  The account established by the qualified intermediary (QI) to hold the exchange funds.    © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 57
  • 58. Qualified Intermediary   The Intermediary is also known as, QI, Accommodator, Facilitator and Qualified Escrow Holder. A third party that  helps to facilitate the exchange and holds funds in escrow.  Real Estate Exchange   A type of Exchange of real property for real property. All types of real property are "like kind" for other real  property, including vacant land, residential, commercial, and even some long term leases.   Relinquished Property   The original property being sold by the taxpayer when executing a Section 1031 exchange.  Replacement Property   Is the new property being acquired by the taxpayer when executing a Section 1031 exchange.   Reverse Exchanges   This is the type of exchange in which the Replacement Property is purchased before the sale of the Relinquished  Property.   Rules of Identification   The guidelines that must be followed when making a Section 1031 tax deferred exchange, such as the 3 Property  Rule, 200% Rule, and 95% Rule.  Settlement Agent   Definitions include: Title agent, closing officer, escrow officer, settlement officer, closing agent, closing attorney,  settlement attorney.  Tax Deferred Exchange   The procedure outlined under IRS Code Section 1031 involving a series of rules and regulations that must be met in  order to take full advantage of deferring capital gains tax on the sale of investment real estate. Section 1031 tax‐ deferred exchanges are also commonly known as: Starker exchanges, delayed exchanges, like‐kind exchanges,  1031 exchanges, Section 1031 exchanges, tax‐free exchanges, nontaxable exchanges, real estate exchanges, real  property exchanges. Though all of these terms refer to the same thing, the most typical term used today is the  Section 1031 Exchange.   Tenancy In Common (TIC)   A fractional or partial ownership interest in a piece of property, rather than owning the entire piece of property.  Three Property Rule   The Exchangor may identify up to 3 properties, without regard to their value.  The 200% Rule   The Section 1031 Exchangor may identify more than three properties, provided their combined fair market value  does not exceed 200% of value of the Relinquished Property.  The 95% Percent Rule   The Section 1031 Exchangor may identify any number of properties, without regard to their value, provided the  Exchangor acquires 95% of the fair market value of the properties identified.   © 2008, 2009 Edmund & Wheeler, Inc. All rights reserved. The enclosed materials and hypothetical examples are provided for educational purposes only and do not constitute tax, accounting, legal or investment advice. 58