Types of 1031 Exchange Rules

Notebook with property tax sign on a tableYou might be familiar with the 1031 exchange rule that allows you to buy property without paying tax within a set time period. In fact, within the exchange, your profits might also avoid tax. However, it is not all free-range with 1031; you must observe rules to avoid capital gains penalties.

An ideal 1031 exchange is simultaneous. You transfer the ownership of a property directly; there is no hassle in finding a buyer to exchange. Companies like 1031ex.com make the process as easy as possible. However, it is often difficult to find an investor willing to exchange paperwork on the same day. It is also difficult to find properties with matching debt and equity. As such, consider the following:

Delayed exchange

You can sell your property through the delayed exchange, but you must find a replacement property within 45 days. From there, you have a 180-day period to close on the property. The two timing rules are non-negotiable even if the days fall on a holiday or the weekend. After the 46th or the 181st day, 1031 becomes invalid.

Improvement exchange

Suppose you have seen an ideal asset, but it is of a lesser value. This situation, known as a “construction” allows you to increase the value of the asset using exchange equity. However, the IRS mandates that you spend all exchange equity on the improvements before the exchange period is over. What’s more, the final value should equal the original price of purchase and improvements.

Personal property exchange

Personal property can fall under the 1031 code as long as the features are alike. By IRS definitions, the private property covers anything that is not real estate including machinery, patents, artwork or vehicles. A qualified intermediary can tell you when best to exchange personal property; the fair market value of the asset must account for depreciation and the adjusted costs.

The 1031 exchange tax deferment is a powerful tool for creating wealth. It allows you to avoid taxation; an advantage few other investments offer. However, 1031 exchanges require strategy and careful planning to prevent unforeseen tax liabilities.