1031 Exchange Fundamentals

a man and woman sitting at a table with a calculator

What is the Number One Rule to remember regarding 1031 exchanges?

Have all potential exchangers consult their accountants first about whether or not a 1031 tax deferred exchange is in their best interest.

Why do a 1031 exchange?

To defer the payment of capital gains tax. Potential exchangers often seek to avoid capital gains tax. 1031s allow for the deferral, but not avoidance.

Why is it called a 1031 exchange?

It is named after Section 1031 of the Internal Revenue Code.

What are the steps for a basic forward 1031 exchange?

Step One: Sale of the Relinquished Property
Before the sale of the first property (the “Relinquished Property”), the Exchanger must arrange for a 1031 exchange. At closing, the proceeds are delivered to the Qualified Intermediary to be held in escrow for the benefit of the Exchanger. Lakeside Exchange, LLC is a Qualified Intermediary.

Step Two: Identification of the Replacement Property
The identification period in a delayed exchange begins on the date the Exchanger transfers the relinquished property and ends at midnight on the 45th calendar day thereafter.

To qualify for a §1031 tax deferred exchange, the tax code requires identifying replacement property:
An identification notice must contain:
An unambiguous description of the replacement property (i.e. legal description, tax identification number, street or distinguishable name). For example, a specific condominium unit number would need to be named – not just the building.

The maximum number of properties that can be identified is limited to:

A) Three properties without regard to their fair market value (“3 Property Rule”);
B) Any number of properties so long as their aggregate fair market value does not exceed 200% of the aggregate fair market value of all relinquished properties (“200% Rule”);
C) Any number of properties without regard to the combined fair market value, as long the properties acquired amount to at least ninety five percent (95%) of the fair market value of all identified properties (“95% Rule”).

Step Three: Purchase of the Replacement Property
The Exchanger must obtain the Replacement Property within 180 days following the sale of the Relinquished Property, which must be identified property, subject to the rules listed above. At closing, the proceeds are paid directly to the title company by the Qualified Intermediary from the Exchanger’s 1031 escrow account, and the Exchanger receives the Deed to the Replacement Property.

What are the requirements to fully defer any capital gains tax?
If an Exchanger intends to perform an exchange that is fully tax deferred, they
must meet two simple requirements:

1. Reinvest all of the money in Exchanger’s 1031 escrow account AND
2. Acquire one or more properly identified Replacement Property equal to or greater than in value than the Relinquished Propert

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