The situation: You want or need to sell your income-producing land and want or need to purchase another income-producing property, but would prefer not to pay capital gains taxes. A 1031 exchange will allow you to utilize the sale proceeds to exchange and invest in another income-producing property while deferring payment of capital gains taxes.
What is an IRS Section 1031 Tax-Deferred Exchange?
Section 1031 has been in existence since 1921. It is utilized on income-producing property. It allows owners of business and investment properties to defer (not tax-free) payment of capital gains taxes by reinvesting proceeds from the sale of a currently owned property (relinquished property) into a like-kind property (replacement property); payment of tax is deferred until the property is sold with no reinvestment.
As a property owner, when and why would you utilize a 1031 exchange?
For income-producing properties, 1031 exchanges are utilized for:
- asset preservation
- consolidation of diversification of investments
- relocation of investments
- greater cash flow
- to build wealth
- job creation
A survey of REALTORS® indicated that 63% participated in a like-kind exchange transaction between 2011 and 2015; 40% indicated that transactions would not have occurred in the absence of the tax provision, and 56% said even if the project would have occurred it likely would have been smaller in scale. This survey revealed that REALTORS® or their clients said the reason they participated in a like-kind exchange, aside from the deferral of capital gains taxes, was for equity to acquire additional properties, estate planning, portfolio diversification, and completion of a development project.
In 2015, the REALTORS® Land Institute (RLI), National Association of REALTORS® (NAR), and several organizations worked to educate legislators why repeal of Section 1031 would have a negative impact on real estate. As I was the RLI president at that time, I represented RLI at the gathering. The group met with 51 legislators, the Ag Committee and Senate Finance Committee.
I have written several articles on 1031 exchanges – feel free to contact me in regard to exchange questions. In addition, the National Association of REALTORS® “Like-Kind Exchanges: Real Estate Market Perspectives” report can be found at http://www.realtor.org/reports/like-kind-exchange-survey.