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You can sell your property today, reinvest the profits within the next six months and delay the taxes on the gain indefinitely. We have the 1031 investment expertise to help you avoid taxes while you build real estate wealth.

The 1031 Delayed Exchange

The delayed exchange, also called a Starker exchange, is a very special investment technique which can only be used in real estate transactions. You are allowed to sell your property today and to reinvest the profits as long as six months later without having to pay the taxes due on the sale. Taxes are deferred to a future date that you choose.

After you sell your property, you have 45 days to identify a new property and 180 days to purchase it.

A simple example of how it works and why you should do an exchange

Let's say you bought an investment property and sold it with a capital gain of $200,000. After taxes and depreciation recapture you owed $50,000 in taxes. You now have $150,000 to invest in your next property. If we use a 25% down payment, you can buy a new property worth $600,000 and hopefully continue to build your fortune.

Just to recap, you made $200K on your property, gave $50K to the government in taxes and now will invest the remaining $150K. You put 25% down and bought a $600K property.

If you used a 1031 exchange and delayed the taxes on the property, you would have $200,000 to reinvest. Now you could purchase a new investment of $800,00.

The 1031 Exchange allowed you to purchase a property worth $200,000 more! If you made 10% on this new property you would have $20,000 more in your pocket. If this continues for a number of years, Uncle Sam is helping you make millions extra.

The IRS is permitting you to defer your taxes. They feel that you will continue to make more money and some day you will pay them on all of the gains. It is like an interest free loan from Uncle Sam.

Delayed exchanges use a Qualified Intermediary to assist in the trade. The Qualified Intermediary is a principal in the exchange who accepts the exchangor's property, sells it and then, at a later date, purchases the trade property and transfers it to the exchangor. The exchangor gives his property to the Qualified Intermediary and receives a property in trade. The transaction is a perfect 1031 exchange which occurs in two stages rather than one.

To have a proper delayed exchange, it is necessary for the Qualified Intermediary to be a bona-fide principal in the transaction. The cash which the Qualified Intermediary receives for the sale of the exchangor's real estate must become the property of the Qualified Intermediary. The exchangor should have absolutely no control of the proceeds from the sale. The transaction should include an exchange agreement in which the disposition of the exchangor's property and the acquisition of the trade property are interdependent. That is, the trade out of the exchangor's property cannot take place without a requirement that the exchangor receives a property in return.

Translation - You sell your property through someone else who is actually accepting the money. You have 45 days to identify some properties that you want to purchase with the proceeds of the sale and 180 days to purchase them. You do not have to buy all of the properties that you identify as prospects. When you sell your property, the Qualified Intermediary is holding the funds. When you purchase the new property, which must be within 180 days, the Intermediary is making the purchase.

Every exchange provides opportunities for wealth-building, but also provides the opportunities for penalties in the event the exchange is performed incorrectly. The delayed exchange is entirely legal, defensible, and has been used thousands of times over the last ten years. However, it is imperative that the exchangor and his agent obtain qualified, correct advice on the exchange before committing to the transaction. In other words, make sure the Qualified Intermediary knows what they hell they are doing. We have some good people and I will recommend a few.

REVERSE EXCHANGE

This is simply the reverse of a delayed exchange. This occurs when an investor identifies and purchases replacement property prior to the sale of property he relinquishes. Federal guidelines for a reverse exchange were issued September 15, 2000 so we have safe harbor rules to follow.

AN IMPROVEMENT EXCHANGE

This allows the investor to construct a new replacement property within certain guidelines including time constraints.

WHO SHOULD CONSIDER A 1031 EXCHANGE?

Anyone who is thinking about selling a business use or investment property should consider affecting a 1031 Exchange. An Exchange offers the astute investor an opportunity to reinvest the federal capital gains that would normally be handed over to the IRS and put that money to work for himself. You work too hard to simply pay the tax without carefully considering this reinvestment option. Essentially, 1031 Exchanges should be thought of as an interest free loan from the IRS; one in which the principal may be increased through subsequent exchanges and may never require repayment, if you plan properly.

MISCONCEPTIONS ABOUT EXCHANGING

1. Many still believe that you must Swap properties. Although this was required in the original code, this is rarely done in present times. 1031 Exchanges now enable one to sell their property to someone totally unrelated to the person from whom they are purchasing their replacement

2. Many believe only investors of large commercial properties can utilize the benefits of Section 1031. The great thing about 1031 Exchanges is that it applies to all investment properties, large and small. It will work the same way for a corporation selling a large shopping center as it would for an individual selling a single-family home used as a rental property in a vacation area.

3. Many believe you must acquire a property of "similar use or service." While 1031 exchanges are also known as "like-kind" exchanges, like-kind simply applies to real property held for business use or investment. Therefore, an investor may sell raw land and acquire a five-unit apartment building or sell a warehouse and acquire raw land. He can sell one property and acquire three or sell four and acquire one. Virtually any type of real property used for business use or investment will qualify.

4. Many believe 1031 exchanges are very complicated and not worth doing. The fact is that when working with a qualified intermediary who specializes in Section 1031 tax deferred exchanges, the exchange process is very simple. The intermediary will keep you aware of your time deadlines and ensure you do everything in strict compliance with IRS regulations.

ADVANTAGES OF EXCHANGING

1. The Exchanger will have more buying power because the federal income taxes are deferred. This will enable him to leverage himself up greater than he could have had he paid the tax liability. The additional equity to reinvest will make him a more solid buyer and help him get easier financing.

2. Investors can do exchange after exchange to create a pyramiding effect. This tax liability is forgiven upon the death of the investor as the heirs get a stepped up basis on the inherited property.

3. The Exchanger will have greater selling power because he does not have to inflate the sales price to try to cover some of the capital gains that would normally be due upon the sale of an investment property. It will enable him to be more flexible with the selling price.

4. The Exchanger can acquire a replacement property with greater income potential. He can sell raw land and acquire income-producing property. Perhaps, he wants to acquire a building with additional units or in an easier to rent location.

5. The Exchanger has the opportunity to consolidate several hard to manage properties in one easy to manage property or diversify several small properties into one large property. It provides an excellent opportunity to relocate or expand a current business or investment.

6. An exchange can also help an investor acquire a less management intense property

SLIGHT DISADVANTAGE

The basis of your replacement property will be lowered by the amount of gain deferred on the sale of your relinquished property. However, when weighing this against the deferred gain, the astute investor can clearly see he is still significantly ahead.

LIMITATIONS ON THE NUMBER OF REPLACEMENT PROPERTIES THAT CAN BE IDENTIFIED:

1. THREE PROPERTY RULE:

Exchanger may identify up to three properties regardless of their fair market value. The Exchanger is not obligated to purchase all three properties but must purchase at least one of the three identified properties. For example, if selling a relinquished property for $100,000, three replacement properties can be identified with a combined fair market of $750,000.

2. 200% VALUE RULE:

Exchanger may identify more than three properties but their combined or fair market value cannot exceed double (200%) the fair market value of the relinquished property. For example, if a relinquished property was sold for $100,00 and four or more replacements are identified, their combined fair market value cannot exceed $200,000 with 200% or double the sale price of the relinquished property.

Exceptions to the Three Property Rule and the 200% Value Rule:

1. Any replacement property acquired within the 45-day Identification Period will be treated as properly identified, regardless of whether or not it is within the Three Property Rule or 200% Value Rule.

2. If the Three Property Rule and 200% Value Rule are violated, the property will still be treated as properly identified, provided that 95% of the combined fair market value of the identified replacement property has been acquired. For example, assume a $100,000 property was sold and five properties with a combined fair market value of $800,000 are identified. This will be treated as properly identified provided all five properties are acquired. It is almost impossible to acquire 95% of the property without acquiring all 100% of the property.

We have spoken to real estate agents and brokers who do not know the IRS guidelines for a 1031 exchange and will get you into deep trouble with severe tax penalties. Make sure you work with someone who knows what they are doing. (Perhaps, someone like myself for example.)

We use a Qualified Intermediary for all 1031 exchanges. However, not every deal qualifies and there are still certain sections of the IRS rules that are open to interpretation. Some agents, due to their lack of experience or just plain indifference, will have you do an unqualified exchange. What do they care? They are only interested in selling more property.

The 1031 exchange is a powerful tax planning tool when used properly. It can save you a fortune in taxes as you build more and more real estate wealth.

Our expertise in the use of 1031 exchanges is just another factor that sets us apart from other real estate investment companies. Call us to discuss how we can help you begin investing in conservative but highly profitable real estate deals.

Martin Unger
Real Estate Investments

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