Should You Do a 1031 Exchange?
By Carol Martino

When an owner of real estate, whether residential or commercial, decides to sell a property he has used for investment purposes, he may be confused by some of the terms he hears at the mortgage or real estate office or even from his accountant. One of those oft-heard terms is the mysterious "1031 exchange." What is this and how can it benefit the seller? What are the pitfalls?

Here are some basics to help clarify the concept of the 1031 exchange.

• In most cases, a 1031 exchange is a tax-deferred exchange. While a typical sale of property generates capital gains on which tax is due when the gains are realized (in the seller's pocket or bank account), in an exchange, the tax can be deferred until the gains are realized in the future.
• The proceeds of the sale do not go directly to the seller, but rather are used to purchase another "like-kind" property. When the replacement property is sold, the realized gains are subject to tax.
• Property that you're living in or using as a residence does not qualify for a 1031 exchange. To qualify, both properties must be for productive use in trade or business or for investment/rental income.
• There are time restrictions on 1031 exchanges, namely the 45-day rule which states that the replacement property must be identified within 45 days from the date the relinquished property is sold. The 180-day rule states that the exchange transaction should be complete within 180 days from the date of the sale of the relinquished property, or on or before the due date for filing the return, whichever is earlier.
• If a replacement property costs less than the amount for which the relinquished property sold, the remaining portion is known as "boot" and is subject to capital gains taxes. To avoid this scenario, sellers should ensure that the replacement property is of equal value or greater than the relinquished property.

There are a number of other restrictions and details surrounding a 1031 exchange, but a seller of investment property can avoid paying capital gains tax by buying a similar property within the designated time-frame.

Want to know more? Ask your Realtor, attorney or accountant for specifics for your own situation.

Carol Martino is a Realtor and she can be reached at (510) 919-9233 or www.carolmartino.com.