1. Ten Things to Know About 1031
Exchanges
Tax nerdsmaybe able tospout offInternalRevenueCodeSections, butmost peopleneverget
beyond401(k). (That’sright,yourworkplaceretirement savingsplanisnamed afterasectionof the
tax code.)
Still, “Section1031″is slowlymaking itswayinto dailyconversation, bandiedaboutbyrealtors, title
companies, investorsand soccermoms. Somepeopleeveninsist onmaking it into averb, alaFedEx
, as in: “Let’s1031 that building foranother.” (While Section1031isn’t restricted torealestate, that’s
clearlywhere most of thediscussiontakesplace.)
So what is 1031?
Broadlystated, a1031exchange(also called alike-kindexchangeoraStarker)isaswap of one
business orinvestment asset foranother. Althoughmost swapsare taxableassales, if youcome
within1031, you’lleitherhave no taxorlimited taxdueat the timeof theexchange.
In effect, youcanchangethe formof yourinvestmentwithout (asthe IRSseesit)cashing out or
recognizingacapitalgain. That allowsyourinvestment tocontinue togrowtax deferred.There’sno
limit onhow manytimesorhowfrequentlyyoucandoa1031. Youcanroll overthe gainfromone
piece ofinvestment realestatetoanothertoanotherand another.Althoughyoumayhaveaprofit on
eachswap, youavoid taxuntilyouactuallysellforcashmanyyearslater. Thenyou’llhopefullypay
onlyone tax, and that at along-termcapitalgainrate (currently15%).
Warning:
Specialrulesapplywhendepreciablepropertyisexchangedina1031. It can triggergainknownas
“depreciationrecapture” that istaxedasordinaryincome. Ingeneral, if youswap one building for
anotherbuilding, oronemachine foranothermachine, youcanavoid thisrecapture. Butif you
exchangeimprovedland withabuilding forunimprovedland without abuilding, thedepreciation
you’ve previouslyclaimedonthe building willbe recapturedasordinaryincome.

2. Suchcomplicationsare whyyouneed professionalhelp whenyou’redoinga1031. Still, if you’re
considering a1031–orjust curious–hereare 10thingsyoushould know.
1. A 1031 isn’tforpersonaluse.
The provisionisonlyforinvestmentand businessproperty, so youcan’t swapyourprimary
residence foranotherhome. Thereare waysyoucanuse a1031 forswapping vacationhomes, but
this loopholeismuchnarrowerthanit used tobe. Formoredetails, see No. 10.
2. But somepersonal propertyqualifies.
Most 1031 exchangesare of realestate.However,someexchangesof personalproperty(saya
painting)canqualify. Note, however, thatexchangesof corporatestockorpartnership interestsdon’t
qualify. Onthe otherhand,interestsasatenant incommon(sometimescalled TICs)inrealestate do.
3. “Like-kind”isbroad.
Most exchangesmust merelybeof“like-kind”–anenigmatic phrase that doesn’t meanwhat you
thinkit means. Youcanexchangeanapartment buildingforraw land, oraranchforastrip mall. The
rules are surprisinglyliberal. Youcanevenexchangeonebusinessforanother.But again, thereare
trapsforthe unwary.
4. Youcandoa “delayed”exchange.
Classically, an exchangeinvolvesasimple swap ofoneproperty foranotherbetweentwopeople.But
the oddsoffinding someonewiththeexact propertyyouwantwho wantsthe exactpropertyyou
have are slim. Forthat reasonthe vast majorityof exchangesare delayed,threeparty, or “ Starker”
exchanges(named forthefirst taxcase that allowedthem). Inadelayedexchange, youneeda
middlemanwho holdsthe cashafteryou“sell” yourpropertyand usesit to “buy” thereplacement
propertyforyou. Thisthreepartyexchangeistreatedasaswap.
5. Youmust designatereplacement property.
There are twokeytiming rulesyoumust observe inadelayedexchange.The first relatestothe
designationofreplacement property. Oncethesale of yourpropertyoccurs, theintermediarywill
receive thecash. Youcan’t receivethecashorit willspoilthe 1031treatment. Also, within45daysof

3. the sale of yourpropertyyoumust designatereplacement propertyinwriting tothe intermediary,
specifying the propertyyouwant toacquire.
6. Youcandesignatemultiplereplacement properties.
There’slong beendebateabout howmanypropertiesyoucandesignate and whatconditionsyou
canimpose. The IRSsaysyoucandesignate three propertiesasthe designatedreplacement property
so long as youeventuallyclose onone of them.Alternatively,youcandesignatemorepropertiesif
youcome withincertainvaluationtests. Forexample, youcandesignateanunlimited numberof
potentialreplacement propertiesaslong asthe fairmarket value ofthe replacementpropertiesdoes
not exceed 200%of theaggregatefairmarketvalue ofallthe exchangedproperties.
7. Youmust closewithin sixmonths.
The second timingrule inadelayed exchange relatesto closing. Youmust close onthe newproperty
within180 daysof the sale of the old.Note thatthe twotime periodsrunconcurrently. Thatmeans
youstart counting whenthesale of yourpropertycloses. If youdesignatereplacement property
exactly45dayslater, you’llhave 135daysleft to close onthe replacementproperty.
8. If youreceivecash, it’staxed.
Youmayhave cashleft overaftertheintermediaryacquiresthe replacement property. If so, the
intermediarywillpayit to youat the endofthe 180days. That cash–knownas“boot”–willbe taxedas
partialsales proceedsfromthesale of yourproperty,generallyasacapitalgain.
9.Youmust considermortgagesandotherdebt.
One of the mainwayspeople getinto trouble withthese transactionsisfailing to considerloans. You
must considermortgage loansorotherdebtonthepropertyyourelinquish, and anydebt onthe
replacement property. If youdon’t receivecashbackbut yourliabilitygoesdown, that toowillbe
treated asincometoyoujust like cash. Supposeyouhad amortgageof$1milliononthe old
property,but yourmortgageonthe newpropertyyoureceive inexchange isonly$900,000. You
have $100,000 of gainthat isalso classified as “boot,”and it willbe taxed.
Read More…http://www.forbes.com/2010/01/26/capital-gains-tax-1031-vacation-home-
personal-finance-robert-wood.html

4. More info fromNAR: http://www.realtor.org/field-guides/field-guide-to-1031-exchanges NAR
Field Guide to 1031Exchanges
One thing iscertain: do notmissthe opportunitytodoanexchange if youcan.