What is involved in a 1031 Property Exchange?
The benefit of the 1031 Property exchange is to be able to defer tax liability and to maximize profit while continuing with capital investment. The main requirements for the exchange is that it is a like-kind exchange where the property you give up and the property you receive must be held by you for investment or for productive use in trade or business. So only like-kind properties are involved in a 1031 exchange.
1031 exchanges come in five different types. The five types of 1031 exchange includes the simultaneous exchange, the delayed exchange, reverse exchange, improvement exchange, and personal property exchange. In the simultaneous exchange, one property is sold and the next is bought at exactly the same time. If the property is sold and the replacement is bought within 180days, it is called delayed exchange. Reverse exchange has the replacement property bought before the initial property is sold. When capital is used to improved the property, then we call it improvement exchange. In personal property exchange, you exchange your property with a like-kind property. These exchanges can include cattle, aircraft,mineral rights, and others.
There are substantial variations in the processes of these different types of exchanges. Among the different types of property exchanges, the most common and popular types is the delayed exchange.
The first step in delayed exchange is the planning stage where the property owner talks to a qualified intermediary (QI) called the facilitator. What the facilitator does is to ascertain the objective of the property seller or exchanger and makes suggestions as to the right options once he has estimated the amount of potential capital gains and the tax deferred.
Then purchase and sales agreements are drafted stating the intent of the seller or exchanger to exchange the property with the cooperation of the buyer. Then the facilitator converts the sales transaction into an exchange deal through specialized documentation.
When the exchange is decided, certain parties are informed about it and the intent to exchange. The real estate agent, the closing agent, the accountant, and the attorney are the parties notified of the intent to exchange.
Exchange documents are then prepared by the facilitator by collecting required information. The closing agent is then given these documents for execution during closing. The documents are then reviewed by the different parties involved. The QI will then sell the property to the buyer after the closing. The proceeds go to the QI and held by him until the acquisition of the replacement property is over.
In delayed exchange, the exchanger has 45 days from the closing date of the relinquished property to find a replacement property and 180 days to complete the exchange. To complete the exchange, the QI will purchase the replacement property identified and transferred to the exchanger in due time.