For those who don’t know, a 1031 exchange is simply a method of swapping one investment property for another while deferring the capital gains taxes that would typically be due on the sale. While this may seem straightforward, there are actually a few different types of 1031 exchanges, and each has its own set of rules and regulations.
In this article, we will focus on the reverse 1031 exchange. This type of exchange is becoming increasingly popular partly due to the fact that it allows investors to purchase their replacement property before selling their old one. To start, we will explore the fundamentals of a 1031 exchange to help provide additional context on the topic.
What is a 1031 Exchange?
As we mentioned, a 1031 exchange is a method of deferring capital gains taxes that would otherwise be due on the sale of an investment property. In order to qualify for this tax treatment, the property must be exchanged for another “like-kind” property.
Like-kind property is generally defined as any investment property held for business or investment purposes. This can include things like office buildings, shopping centers, warehouses, raw land, and rental properties. It should be noted that like-kind property does not need to be identical; it simply needs to be of the same general nature or character.
To qualify for a 1031 exchange, investors must follow a few key rules and regulations. First, they must identify their replacement property within 45 days of selling their old property. Second, they must close on the purchase of their replacement property within 180 days of selling their old property.
It’s also important to note that investors cannot exchange properties with themselves; the properties must be exchanged with two different parties. Additionally, investors cannot receive cash or other payment as part of the exchange; it must be an exchange of equal values.
What is a Reverse 1031 Exchange?
A reverse 1031 exchange is very similar to a traditional 1031 exchange except for one key difference: in a reverse 1031 exchange, the investor purchases their replacement property before selling their old one.
This may not seem like a big deal, but it has a number of advantages. First, it allows investors to lock in their purchase price early. This can be helpful in markets where prices are rapidly appreciating. Second, it gives investors more time to find the perfect replacement property.
There are a few things to keep in mind if you’re considering a reverse 1031 exchange. First, you’ll need to work with a qualified intermediary (QI). A QI is a third-party company that facilitates 1031 exchanges. The QI will hold the funds from the sale of your old property until you’re ready to purchase your new property.
Second, you’ll need to have the financing in place for your new property before you sell your old one. This can be tricky since most lenders will want to see proof of funds from the sale of the old property.
Third, you’ll need to purchase your new property within 180 days of selling your old one. This is known as the “identification period.” Once you identify your new property, you have up to 180 days to close on the purchase.
Fourth, you’ll need to sell your old property within 360 days of purchasing your new one. This is known as the “exchange period.” Once you sell your old property, you have up to 360 days to close on the sale.
What are the Top Factors Lenders Should Know?
Now that we’ve covered the basics of a 1031 exchange and a reverse 1031 exchange, let’s look at some of the top factors lenders should know.
- 1031 exchanges defer but do not eliminate capital gains taxes.
- 1031 exchanges must be for like-kind property.
- 1031 exchanges have strict time limits.
- 1031 exchanges cannot be done with oneself.
- In a reverse 1031 exchange, the investor purchases the replacement property before selling the old one.
These are just a few things lenders should keep in mind when considering a loan for a property involved in a 1031 exchange transaction. By understanding the fundamentals of how these transactions work, lenders can better assess the risks and opportunities involved.
How to Find a Reputable Lender?
When it comes to finding a reputable lender, you can do a few things. First, ask for recommendations from friends, family, or your real estate agent. Second, check online directories like the Better Business Bureau (BBB) or Yelp. Lastly, read reviews from other borrowers on sites like LendingTree or Zillow.
Once you’ve narrowed down your list of potential lenders, be sure to compare rates, fees, and terms. There’s no one-size-fits-all answer to finding the best loan; it all depends on your individual circumstances.
Should I Seek Help With a 1031 Exchange?
If you’re thinking about doing a 1031 exchange, it’s important to seek professional help. This is not a transaction you want to do on your own. Not only are there strict time limits and rules that must be followed, but the tax implications can be significant.
A qualified intermediary (QI) can help ensure that your exchange is done correctly and in compliance with the law. QIs are typically attorneys or registered brokers who specialize in 1031 exchanges. They can also help facilitate the exchange by holding the funds from the sale of your old property until you’re ready to purchase your new property.
When it comes to finding a reputable QI, you can again ask for recommendations from friends, family, or your real estate agent. You can also check online directories like the Better Business Bureau (BBB) or Yelp. Finally, be sure to read reviews from other borrowers on sites like LendingTree or Zillow.
The Bottom Line
1031 exchanges are a great way to defer capital gains taxes when selling an investment property. However, there are strict rules that must be followed in order for the exchange to be valid. These include time limits, property restrictions, and documentation requirements.
If you’re thinking about doing a 1031 exchange, it’s important to seek professional help. A qualified intermediary can ensure that your exchange is done correctly and in compliance with the law.
To secure the best loan terms when borrowing for a 1031 exchange, be sure to compare rates, fees, and terms from multiple lenders. There’s no one-size-fits-all answer to finding the best loan; it all depends on your individual circumstances.