Explanation of the Workings of a 1031
Developed in the 1920’s, 1031 tax exchange is the most popular and commonly used financial remedy in order to sell one real estate property in exchange of another.
This is proven by the fact that 1031 tax exchange does not deal with any tax return filing involved in the replacement transaction.
1031 tax deferred exchange comes under Internal Revenue Section 1031. It was developed for tax payers who have their properties spread out in different areas, such as business barons and tycoons who take keen interest in selling and re-selling of a series of properties. Currently, it proves to be a pure assistance and a wealth generation tool for all tax payers. 1031 tax deferred exchange merely deals with selling of one asset, such as a real estate property, income or any kind investment in exchange of another similar asset.
A tax payer can save sufficient amount of tax through this exchange. The tax payer sales his old property, defers the amount received from the sale towards the purchase of a new property, thus saving a considerable amount of money on taxes. 1031 tax deferring is a tax-saving financial tool and a successful replacement can take place with an assistance of a financial intermediary or a realtor who knows everything of real estates.
There are absolutely no cash transactions involved in this. Moreover, it is a safe and easier transit from the sale of one property to the purchase of a new property, by the swapping of former with the later one. To have a problem-free transaction and to completely divert the income taxes, whatever equity or profit obtained from the sale of one property, one must immediately go into the purchase of a new property to avoid filing tax returns.
However, there are certain conditions the tax payer must satisfy, to have a successful ‘like-kind’ property replacement transaction.
These are the thumb rules for 1031 tax deferred exchange.
- Firstly, before making any sale, the tax payer must ensure that the total purchase price for a new property has to be equal to or more in amount, as compared to the net selling price for the former property. This will only help him have total deferral of tax returns, and give him a healthy replacement of original asset.
- Secondly, he/she must learn that whatever equity he obtains from first stage of selling transaction, must run into as an investment for the purchase of his ‘like-kind’ property. This ensures that a problem-free swap has taken place and he won’t be questioned.
These ‘like-kind’ replacement properties may include shops for rental houses, offices for agricultural lands, small lands for real estate property, etc.
A crucial period of 45 days is given for a seller/ tax payer, during which he has to search and identify ‘like-kind’ new properties before he wants to exchange his old property. These 45 days starts from the first day after his sale, and is non-extendible.
Secondly, a 180 days period is allotted during which, the party must, compulsorily replace his sold property. It is set by the 1031 exchange (IRS) rule.
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