Why the rule exists
Sometimes two parties want to exchange similar properties with each other. This may especially be the case with real estate properties. Rather than execute a buy/sell of these properties between between themselves, which would involve a taxable gain or loss immediately, there may be the potential to simply trade the properties, thus deferring the outcome.
What is the rule
Section 1031 of the Internal Revenue Code states that no gain or loss is recognized if property used in your trade or business or held for investment is exchanged for other like-kind property (for instance, if you are trading real estate properties between yourself and someone else). Such property does not include inventory, stocks, bonds, or interests in partnerships.
What is like-kind property
Properties are of “like-kind” if they are of the same nature or character. This can be true even if they differ from each other in grade or quality. Real properties generally are of like-kind, regardless of whether the properties are improved or unimproved. However, real property in the United States and real property outside the United States are not like-kind properties (i.e., one could not conduct a like-kind exchange of U.S. property for property in another country).
Who Qualifies
Owners of investment and business property can qualify for a Section 1031 exchange. Owners may include individuals, C corporations, S corporations, partnerships (general or limited), limited liability companies, trusts and any other taxpaying entity. Please contact E. Daniel Miller, CPA, PC at (888) 734-3933 or tax@edanielmillercpa.com for information concerning your specific circumstances.
Types of Exchanges
To accomplish an exchange, there must be an exchange of properties (of course). The simplest type of exchange is the swap of one property for another. But there are also forms of exchanges such as a deferred exchange and a reverse exchange.
The deferred exchange is more complex but also more flexible; however, a deferred exchange must be distinguished from the case of a taxpayer simply selling one property and using the proceeds to purchase another property (as the latter is a taxable transaction).
A reverse exchange is more complex than a deferred exchange in that it involves the acquisition of replacement property through an exchange accommodation titleholder. It cannot remain with this titleholder longer than 180 days; therefore, a taxpayer must dispose of their relinquished property within that time period to close the exchange.
Tax Consequences
There are many other particulars that must be considered in order to execute a proper Section 1031 Like-Kind Exchange. Contact E. Daniel Miller, CPA, PC with the particulars of a specific exchange you’re contemplating, or even if you only have additional questions. You can reach us at (888) 734-3933 or tax@edanielmillercpa.com.
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