WHAT IS A STANDARD 1031 TAX-DEFERRED EXCHANGE?

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A standard 1031 exchange refers to a tax-deferred exchange of investment or business property under Section 1031 of the U.S. Internal Revenue Code. It allows investors to sell a property and reinvest the proceeds into another similar ("like-kind") property, deferring the capital gains taxes that would normally be due on the sale.

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Here’s how it typically works:

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1. Sale of the Original Property: The investor sells a property, but instead of receiving the proceeds directly, they are transferred to a qualified intermediary. This intermediary facilitates the exchange and holds the funds until they are used for the purchase of the new property.

2. Identification of Replacement Property: After the sale of the original property, the investor must identify one or more properties to purchase as a replacement. The investor has 45 days from the sale of the original property to identify the new property.

3. Acquisition of Replacement Property: The investor must then complete the purchase of the replacement property within 180 days of the sale of the original property.

4. Like-Kind Property: The properties involved in the exchange must be “like-kind,” meaning they are of the same nature or character, but not necessarily the same quality. For example, real estate is generally considered like-kind to other real estate.

5. Tax Deferral: By following these steps, the investor can defer paying capital gains taxes on the sale of the original property. Instead of paying taxes immediately, the tax liability is deferred until the replacement property is eventually sold.

 

Important Rules:

• Equal or Greater Value: To fully defer taxes, the replacement property must be of equal or greater value than the original property.

• Same Taxpayer: The same taxpayer who sells the original property must be the one who purchases the replacement property.

 

This strategy is commonly used by real estate investors to build wealth and defer taxes over time.