1031 Exchanges at a Glance: 3 Things You Need to Know

The real estate market has been booming since the pandemic began. Those sitting on the sidelines may have been wondering how much people are benefiting from the rise of the housing market, and how to get in on it.

Well, one savvy reason that real estate investors benefit is because of 1031 exchanges. In fact, it is estimated that between 10% and 20% of real estate transactions involve a 1031 exchange.

So, what is a 1031 exchange? How does it work?

Find out why one company uses these exchanges for 75% of property purchases.

What Is a 1031 Exchange?

This is a fancy way of saying that a real estate investor has the ability to avoid (technically defer) paying taxes on the profits they made from selling their original property. So, it allows you to move that money over to your next investment rather than having part of it be taxed.

This can be done if you buy another property that is of equal or greater value to the one you sold. However, you need to keep these three things in mind when going that route.

1. Deadlines

There is a time limit to how long you have to take advantage of this exchange. You will need to keep track of days for a few months, with two specific deadlines in mind.

The first is that you have 45 days after you sell your original property to formally declare the new property that you wish to purchase. Money from the sale of your old property will be held by an intermediary until the next purchase is complete.

Second, you will have 180 days after your original sale to complete the purchase of your next property. So basically, you need to have your next property purchase completely wrapped up within six months of your original sale to receive this benefit.

2. Safe Harbor

There is a safe harbor rule for the IRS not challenging whether your property would qualify for the 1031 exchange.

You need to have the property considered an investment property, rather than your personal home. There are minimum and maximum qualifications for this.

You must rent the property to somebody else at a fair-market price for 14 days or more per year for two years, if you have the property for that long. Then, you cannot live in the property for more than 14 days per year or 10% of the days that the property is being rented for that year.

If you reach these thresholds, the IRS will not question you claiming a 1031 exchange.

3. No Limit

Lastly, there is no limit to how many times you can personally use the 1031 exchange. If you want to do this for 20 properties for the next 20 years, you are able to as long as each meets the conditions above.

Savvy investors can have this go on for decades and in the end, they only pay tax on their final sale when they are out of the game for good.