However, there are some risks to consider as well:
1031 Exchanges
Selling a property is a headache, no matter what your motivation for it is.
You might be selling a house to move to a bigger one.
You might be selling a rental property to fund the purchase of a new one.
You might simply be rebalancing and consolidating your real estate.
In any case, selling a property means paying capital gains taxes – or does it?
With the help of 1031 exchanges, you can indefinitely avoid paying capital gains taxes.
So how do you use them?
What Is
a 1031 Exchange?
Section 1031 of the Internal Revenue Code (IRC) defines the process for making a 1031 exchange. Essentially, this is a maneuver that allows you to exchange an existing property for a new one of like kind, effectively transferring your wealth from one asset to another, deferring capital gains taxes in the process. One of the primary motivations for this pseudo-loophole is to encourage more economic activity and prevent taxes from discouraging investors. But regardless of the motivation, this is an excellent way to improve your tax position and ultimately make more money from your real estate investments.
The Complexities of 1031 Exchanges
While 1031 exchanges are relatively easy to understand at the high level, there are some complexities that you'll need to consider. In fact, many real estate investors consult with tax advisors, lawyers, real estate agents, and other investment professionals before pursuing a 1031 exchange to make sure they're handling it correctly.
For example, the exchange must be for a property of like kind. In other words, the new property should be similar to the old one and used for similar purposes. You can't use a 1031 exchange to sell a commercial investment property from your business and use the proceeds to buy a residence for yourself.
The exchange must also happen with a third party, via escrow. Accordingly, you'll need to find a reliable partner to help you manage that transaction.
The 1031 exchange will also reset your depreciation schedule. Depreciable properties must be considered carefully before you choose to undergo this.
The good news is, you can use 1031 exchanges as often as you'd like, as there are no time limits or restrictions on frequency.
Common Reasons to Pursue a 1031 Exchange
Most people who pursue a 1031 exchange do so with the following motivations in mind:
Generally avoiding taxes
Deferring capital gains taxes can be huge, as the capital gains tax on your proceeds will likely be between 15 and 20 percent. This allows you to preserve your net worth, avoid interruptions to your cash flow, and potentially indefinitely delay paying capital gains tax.
Upgrading to a better property
This is also an opportunity to upgrade to a property that's better for your strategy in some way. For example, you might trade an existing property for one that can generate higher monthly income.
Consolidating properties
If you have a large portfolio of real estate, 1031 exchanges make it easier to consolidate your properties. For example, you might be able to sell multiple smaller properties in order to buy a bigger, multi-unit property.
Advantages and Risks of 1031 Exchanges
These are some of the greatest advantages of following a 1031 exchange:
Avoid or defer capital gains taxes
The big-ticket item here is avoiding or deferring capital gains taxes. With a single 1031 exchange, you can avoid what would be an immediate tax payment. Keep making these exchanges and you may be able to defer capital gains taxes indefinitely.
Manage a sale with an intermediary
Because of the requirements of 1031 exchanges, you can manage the sale of a property with a trustworthy intermediary. Third party escrow accounts may seem like a hassle, but they also confer great advantages.
Increase total equity
Avoiding capital gains tax also means preserving and eventually increasing your total equity. It's a fantastic strategy if your goal is to accumulate more wealth.
Rebalance your portfolio
This is also an opportunity to conveniently rebalance your portfolio. Instead of taking a massive capital gains tax hit, you can gracefully move your equity from one property to another.
Restriction and requirement compliance
There are many restrictions and requirements associated with a 1031 exchange. You'll need to exercise caution to ensure compliance with all of them. Additionally, you may be limited in terms of what types of exchanges you can make, given that your new property must be like kind.
Tax documentation and planning
This is a somewhat complex tax strategy that requires careful documentation and planning. Without the help of an expert in this area, you could easily become overwhelmed.
Intermediary selection
You'll need a third-party intermediary that you can genuinely trust. Finding one and doing your due diligence can present significant challenges. That said, once you find the right partner, everything about your 1031 exchange is going to become much easier.
Why Work With Invest.net for Your 1031 Exchange?
Why should you choose to work with Invest.net for your 1031 exchange?
Competence
Invest.net is home to investment professionals from a wide variety of different backgrounds. We have the knowledge, expertise, authority, and practical experience necessary to execute this work with precision.
Advice
Because of our roster of knowledgeable experts, we can give you the best advice for managing your real estate portfolio and ultimately securing higher returns. If you have any questions or concerns about 1031 exchanges, we can answer them.
Trust
We are reliable partners you can trust. We've helped thousands of investors like you manage real estate transactions, make better purchasing decisions, and ultimately grow their wealth.
Ongoing support
We do a lot more than just 1031 exchanges. We can help you with almost any investment you want to make or manage.
Are you ready to move forward with your 1031 exchange?
Or do you have more questions about how 1031 exchanges work?
We’re here for you.
All you have to do to start the conversation is
