1031 Exchange Information
A 1031 exchange permits you to delay paying capital gains and taxes upon the close of a
sale of real estate investment property. The money gained from the investment property sale
can be reinvested into a similar or greater value property to defer paying capital gains and
depreciation recapture taxes. Section 1031 of the Internal Revenue Code provides that no
gain or loss shall be recognized on the exchange of property held for productive use in a
trade or business, or for investment. It is a method by which a property owner exchanges one
or more relinquished properties for one or more replacement properties of "like-kind", while
deferring the payment of federal income taxes and some state taxes on the transaction. The
deferment is like getting an interest-free loan on the tax dollars you would have owed for a
cash sale. More equity is retained, and that helps you move into properties of higher value
each time you perform a 1031 tax free exchange. The theory behind the 1031 exchange rule is that when a
property owner has reinvested the sale proceeds into another property, the economic gain has
not been realized in a way that generates funds to pay any tax. In other words, the taxpayer's
investment is still the same, only the form has changed. Therefore, it would be unfair to
force the taxpayer to pay tax on a "paper" gain. Performing a 1031 tax deferred
exchange allows you to defer Capital Gains taxes on real estate bought and sold for investment
purposes. There are three conditions that must be met to accomplish non-recognition of gain under
1031 exchange requirement: 1. The properties exchanged must qualify, and be of "like-kind".
2. There must be an actual exchange, not a transfer of property for money only.
3. The time requirements must be strictly followed.
As with most things related to the
Internal Revenue Code, the 1031 exchange program is complicated. It requires strict compliance
with all of the IRS 1031 exchange time limits and requirements to successfully defer paying
capital gains and depreciation recapture taxes.
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