If you have sold real estate and are potentially facing capital gains taxes, there are ways to defer those taxes. A 1031 like-kind exchange lets you sell one piece of real estate and reinvest the proceeds into another—without paying capital gains tax this year. Instead, you defer the tax bill until you eventually sell the property. For real estate investors, this can be a powerful way to keep more of your money working for you right now.
Pro’s:
• There is no dollar limit on the amount of the transaction
• Full deferral of Federal, & most state’s, capital gains taxes
• Can qualify for a step-up in basis for your heirs if you hold property until death
• Unlimited number of exchanges possible (i.e. you can “chain” sales together across years or even decades)
Con’s:
• The additional complexity means higher compliance costs
• Strict rules and timelines; often you’ll need to use a “qualified intermediary”
• Tend to be most beneficial on larger gain sales (i.e. gains exceeding $100K)
• Only works for real estate (i.e. can’t use with appreciated stocks; sale of business; etc.)
Example:
You bought a rental property for $300K. Years later, it’s worth $800K. Selling outright would trigger a $500K gain to pay capital gains taxes on. For someone in the 20% capital gains bracket, that could mean a $100K Federal tax bill (plus state!). Instead, you do a 1031 exchange, roll the $800K into a new rental property, and keep all that capital working—deferring taxes.
A word of caution: This is a complex strategy with rigid IRS requirements. The goal of this post is not to provide an exhaustive how-to, but to show you that you do have options for lowering this year’s tax bill. Always involve your CPA, attorney, and real estate professional when determining if a 1031 exchange is right for you.
If you aren’t currently working with a CPA and would like to learn more, use the “Schedule a Call” button to get in touch with me. I’d love to help you determine if a 1031 is right for you.
