For investors who are interested in beginning a 1031 exchange, the process can seem overwhelming with many moving parts. Where does one begin? Brandon Burns, President of Investors 1031 Exchange was featured on our most webinar where he laid out four key concepts that all investors should consider before beginning the process.
TIME
Time is key when it comes to 1031 exchanges. Burns explains, “The IRS has said, ‘Hey, we’re going to give you this great opportunity to defer and avoid taxes, but it can’t exist forever.’” A strict timeline begins with the sale of your property. The two most notable points on the timeline are:
- Within 45 days of the sale date, the seller must identify a replacement property.
- Within 180 days of the sale date, the seller must complete the purchase of the replacement property.
If the seller doesn’t complete their 1031 exchange within the parameters of the timeline, their 1031 exchange will be obsolete and they will be required to pay capital gains taxes on their sale.
FINANCIAL
“Secondly, as the IRS looks at the financial aspects of the transaction. They’re really only going to look at one key metric… the net sales price” states Burns. He continues, “They’re not going to look at what you paid for the property. They’re not going to look at what the debt is. What they are going to look at is the gross sales price MINUS what they call ‘unavoidable closing costs’ or ‘non-optional closing costs.’”
An easy way to remember what “non-optional closing costs” are is to consider the different parties involved in the transaction. Some examples of these expenses include:
- Realtor
- Title
- Escrow
- 1031 Exchange
From there, the IRS will take the gross sales price, and subtract the cost of the non-optional closing costs. This provides you with the net sales price.
Burns continues, “That’s the number the IRS is going to look at. And that is the amount of real estate that you have to buy in order to fully avoid taxes. You can buy one [or] you can buy multiple properties, but cumulatively, your replacement property or properties has to hit that number.”
WORK WITH A PROFESSIONAL
Brandon Burns, a Qualified Intermediary himself, explains the critical part that roles such as his play for investors doing a 1031 exchange. He says, “Rule number three is what the IRS calls ‘constructive receipt of the funds.’ Any money that a seller or owner touches becomes taxable. Therefore, you have to use a 1031 exchange firm as we are “Qualified Intermediaries” as the tax code calls us.” Therefore, it doesn’t matter which QI you use, but you have to use one.
CONTINUITY OF THE TAXPAYER
The final concept that Burns teaches about is referred to as “the continuity of the taxpayer”. Burns explains, “The IRS still wants to track those deferred taxes…they need the sale and the buyer to show up on the same tax return. That doesn’t always mean it has to be the same entity. But it does mean that it has to be the same taxpayer. The sale and the buy have to show up on the same tax return or they’re going to disallow it.”
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Brandon Burns explains this and other concepts in greater detail as part of our free educational webinar series on 1031 exchanges. You can view a full recording of this webinar here.
Along with having ready-to-identify 1031 exchange properties, Millcreek Commercial also offers free monthly educational opportunities for investors and agents alike. To register for a future event, visit www.millcreekcommercial.com/eventshp/
