Exchange

by Austin Bowlin, CPA – Partner at Real Estate Transition Solutions

Paying taxes on the sale of rental property can be very expensive. In some states, the total amount of tax can be as high as 42.1%. That is why many property owners utilize a 1031 Exchange to defer, reduce, and even eliminate taxes related to the sale of investment property. With a 1031 Exchange, rental property owners can sell their existing investment property and defer paying capital gains tax if the proceeds are reinvested in another investment property of equal or greater value. Additionally, for many investment property owners, a 1031 Exchange also allows for a transition to passive management while improving monthly income potential and diversifying their real estate investments. However, the 1031 Exchange process can be complex and stressful. IRS exchange rules are very rigid, and the 1031 Exchange timeline must be strictly followed to qualify for tax deferral. That is why we make sure our clients understand 8 key steps in the 1031 Exchange process before listing a property for sale.

Step 1: Calculate Your Gains Tax Liability

Calculating the tax liability on the property you are selling is generally the first step in the Exchange process. Property owners can pay up to 42.1% in taxes related to the sale of their investment property depending upon the state the property is located and the amount of taxable gains – net proceeds less the original tax basis. The taxes applied to taxable gains are as follows:

• Federal Capital Gains Tax: 15% – 20% • State Capital Gains Tax: 0% – 13.3% • Depreciation Recapture Tax: 25% • Net Investment Income: 0% – 3.8%

Step 2: Understand 1031 Basics, Rules & Timing Requirements

To help ensure your 1031 Exchange is successful, it is critically important to have a basic understanding of how exchanges work, IRS rules, and timing requirements that must be followed to qualify. Here are 8 key rules that apply to every 1031 Exchange. • The Exchange must be for “like-kind” investment property that is held for use in trade or business or for investment. • The Exchange must be set up with a Qualified Intermediary (QI) before closing on the sale of the relinquished property. • The legal ownership entity on the title of the relinquished property must also acquire the replacement property (must be the same legal entity).

• The Exchanger has 45 days from the sale date of their relinquished property to identify their replacement properties.

• Following the close of the sale of their relinquished property, the Exchanger has 180 days to close on the sale of their replacement property.

• The Exchanger may identify up to three replacement properties. The aggregate value of the properties identified may not exceed 200% of the value of the relinquished property. The Exchanger may identify any number of properties with any aggregate value but must close on 95% of the aggregate value of the replacement properties.

• The replacement property’s value must be equal to or greater than the relinquished property. All equity resulting from the sale must be used.

• Exchangers cannot take possession of their Exchange funds.

Step 3: Set Financial & Lifestyle Objectives for Your Exchange

Setting financial and lifestyle objectives is another critical first step with every 1031 Exchange. These objectives should be based on what you are looking to accomplish today and well into the future. Identifying and selecting replacement properties should be based on key objectives including lifestyle, risk tolerance, cash flow, and appreciation goals, liquidity, desire for management control, debt considerations, and estate planning needs. Setting objectives is critical in developing the right 1031 Exchange strategy.

Step 4: Assess 1031 Replacement Property Options

Identifying suitable replacement property can be a challenging and stressful process. Therefore, we recommend assessing potential replacement properties before listing your relinquished property. Several factors must be carefully considered when seeking to align your financial and lifestyle goals with the right ownership structure, locations, property (continued on page 7)

8 kEY STEPS FOR 1031 EXCHANGES CONTINUED FROM PAGE 6 types, and property attributes for replacement properties.

Step 5: Work with a Realtor to Sell Your Relinquished Property

Austin Bowlin, CPA - Chief Exchange Strategist & Partner at Real Estate Transition Solutions As Chief Exchange Strategist, Austin leads the firm's team of licensed 1031 Exchange advisors & analysts and provides consultation on tax liability, deferral strategies, legal entity structuring, co-ownership arrangements, 1031 replacement property options, and Delaware Statutory Trust investments.

About Real Estate Transition Solutions Real Estate Transition Solutions is a consulting firm specializing in tax-deferred 1031 Exchange strategies and Delaware Statutory Trust investments. For over 26 years, we have helped investment property owners perform strategic 1031 Exchanges by developing and implementing well-planned, tax-efficient transition plans carefully designed to meet their objectives. Our team of licensed 1031 Exchange Advisors will guide you through the entire Exchange process and help you select 1031 replacement properties best suited to meet your goals. To learn more about Real Estate Transition Solutions, call 206-502-4862 or visit our website at www.re-transition.com/rhaor.

IMPORTANT INFORMATION The information herein has been prepared for educational purposes only and does not constitute an offer to purchase or sell securitized real estate investments. Such offers are only made through the sponsor's Private Placement Memorandum (PPM), which is solely available to accredited investors and accredited entities. Case studies and examples are for illustrative purposes and not representative of future results. There are risks associated with investing in real estate properties, including, but not limited to, loss of entire investment principal, declining market values, tenant vacancies, and illiquidity. Because investor situations and objectives vary, this information is not intended to indicate suitability for any particular investor. This material is not to be interpreted as tax or legal advice. Please speak with your own tax and legal advisors for advice/guidance regarding your situation. DST 1031 properties are only available to accredited investors (generally described as having a net worth of over $1 million dollars exclusive of primary residence) and accredited entities only. If you are unsure if you are an accredited investor and/or an accredited entity, please verify with your CPA and Attorney. Securities offered through Aurora Securities, Inc. (ASI), member FINRA/SIPC. Advisory services offered through Secure Asset Management, LLC (SAM), a registered investment advisor. ASI and SAM are affiliated companies. Real Estate Transition Solutions (RETS) is independent of ASI and SAM.

After you become familiar with the different property ownership structures and are comfortable with the types of replacement properties available, the next step is to work with a realtor/broker to get your existing investment property (relinquished property) listed.

Step 6: Open an "Exchange" with a Qualified Intermediary

Once your relinquished property is under contract but BEFORE closing on your relinquished property, open an "Exchange" with your qualified intermediary. Required by the IRS for a valid Exchange, a qualified intermediary (also known as a “facilitator” or “accommodator”) is the entity that receives the sales proceeds upon the sale of your relinquished property, holds onto the proceeds while your replacement property is identified, and releases the funds to acquire the 1031 Exchange replacement property.

Step 7: Identify Your 1031 Replacement Property

Per the IRS's 45-Day Rule, you must identify your replacement property within 45 days after the sale of your relinquished property. Your 1031 advisor at Real Estate Transition Solutions will help you identify qualified properties best suited to meet your goals.

Step 8: Close on Your Replacement Property

Per the IRS's 180-Day Rule, you must complete the purchase of your replacement property within 180 days after closing on your relinquished property. Once you close on the purchase of your replacement property, let your tax advisor know you have performed a 1031 Exchange so the property tax forms can be prepared.

The Bottom Line

IRS Section 1031 is undeniably one of the most generous sections of the tax code, however, IRS rules are absolute and must be followed. Having the right team in place and working with a highly experienced 1031 Exchange Advisory firm to help guide you through the process will help you make the most of your exchange opportunity. If you are considering a 1031 Exchange and would like to discuss which strategy is appropriate for your situation, contact Real Estate Transition Solutions and speak to one of our licensed 1031 Exchange Advisors. To schedule a free consultation, call 503-832-6463, email info@retransition.com, or visit www.re-transition.com/rhaor.

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