1031 exchange then sell to avoid taxes

16 Replies

I have a property that I have had for 10 years. It has increased about 150k in value and I have captured depreciation on it for 8 years. If I pay capital gains on the 150k and the depreciation pay back it will take more of the profit than I want right now. Does anyone know if I can do a 1031 exchanged then after all has settled with escrow sell that property at value having never captured depreciation and not have to pay any taxes?  

@Ross Shively

A 1031 exchange just moves the gain and depreciation to the exchanged property.   However, DO the 1031 Exchange into an income producing Rental for all the cash from the sale then do a REFI cash out in a year.  Be sure it still has +cash flow and you are building income streams for retirement. 

@Ross Shively , Like @Buddy Holmes said, the gain and depreciation follow you into the next property.  If you ever sell without doing a 1031 the tax will come due.  However, you can do a 1031 and then refinance afterward to pull cash out.

You can also add to your depreciable basis by purchasing more than you sold.  and of course you can use your proceeds to purchase multiple properties as replacements if you want to expand.

If your planning to keep investing then 1031 lets you use all of your equity.  If you're wanting cash then a 1031 followed by a refi is the answer.  And if the property you have now is a good one and can stress test a higher mortgage then just do a refi on it now.

@Dave Foster

To clarify - It is my understanding that the new depreciable basis is increased with the new purchase. For example if you purchased the property 10 years ago for $50,000 and you sell through the 1031 exchange for $200,000 and purchase the new property for $210,000, then the depreciable basis will increase by $160,000. You can choose to continue the original depreciation for the on the original purchase of $50,000, but will be able to depreciate the $160,000 over 27.5 years.

Is that correct?

That is INCORRECT. 

You’re new basis will be your old basis plus however much more the new property. In your example your basis will go up by $10,000. Plus you still owe all the depreciation recapture. 

The reason to do a 1031 is to sell your $100k property that is now worth $200k but has been depreciated to near zero and buy a $300k property with that $200k downpayment. Your payment would be the same as it was at original $100k, and you’ve added another $100k that can be depreciated. But your basis would only be the new $100k if you had depreciated the original $100k. The gain is still a gain. 

You are deferring taxes, not eliminating them. Think of it this way. Ask yourself. Why wouldn’t everyone do that every-time and never pay any taxes?

But you do get credit for asking before doing. 

@Ellen Bonner , @Bill Brandt is correct (capitals and all :)

Your basis carries forward into the new property and your basis is reduced by depreciation taken.  You don't get to re-depreciate what you've depreciated.  But the extra amount you purchase is additional depreciable basis.

The $50K you refer to as your carried over basis continues to be depreciated

The $100K of profit isn't depreciable because it's not real estate

The $10K of purchase over the amount of your sale is depreciable with it's own depreciation table.

I can't believe this is so confusing to me, but I continue to see different rules in each explanation.  Maybe it is me, maybe I need a picture.   Let's add a cost segregation part way through it's depreciation in just for kicks.  Perhaps we could see who can draw up the clearest diagram?

Cheers

@Ross Shively the only two things in life that are certain is taxes and death. The only way to avoid paying taxes on a 1031 exchanged property is to hold property until you die.

So, the only way to avoid Taxes on an investment property would be to move back in and live there for 2 years? If it is a primary residence you will not have to pay taxes on up to 250k in profit single, 500k married. Would you pay back the depreciation if you turned it into a primary residence and sold?

@Ross Shively , I"m not going to be your favorite person.  But even that will not completely eliminate the tax.  If you convert an investment property into your primary residence there are some additional requirements:

1. You have to have lived in it for 2 out of the 5 years immediately prior to sale.

2. You will only get to prorate the gain between periods of qualified use (as your primary) and non-qualified use (as investment).

3. And you will have to recapture all depreciation.

Originally posted by @Dave Foster :

@Ross Shively , I"m not going to be your favorite person.  But even that will not completely eliminate the tax.  If you convert an investment property into your primary residence there are some additional requirements:

1. You have to have lived in it for 2 out of the 5 years immediately prior to sale.

2. You will only get to prorate the gain between periods of qualified use (as your primary) and non-qualified use (as investment).

3. And you will have to recapture all depreciation.

 In other words, you will still be responsible for the $150K gain. For example, if you live there 2 years and the house goes up another $30K in value. Total value is now $180K and you are responsible for 10/12 of the that as taxable gain, so $150K. It may end up a little less if the property appreciates less over the next couple years, but in the end you don't really avoid taxes. 

@Dave Foster

To clarify - It is my understanding that the new depreciable basis is increased with the new purchase. For example if you purchased the property 10 years ago for $50,000 and you sell through the 1031 exchange for $200,000 and purchase the new property for $210,000, then the depreciable basis will increase by $160,000. You can choose to continue the original depreciation for the on the original purchase of $50,000, but will be able to depreciate the $160,000 over 27.5 years.

Is that correct?

Well, drats!  I had initially understood that the depreciation carried over...then I read other articles to the contrary. It would have been nice.  Thanks for all the input.

Originally posted by @Ellen Bonner :

@Dave Foster

To clarify - It is my understanding that the new depreciable basis is increased with the new purchase. For example if you purchased the property 10 years ago for $50,000 and you sell through the 1031 exchange for $200,000 and purchase the new property for $210,000, then the depreciable basis will increase by $160,000. You can choose to continue the original depreciation for the on the original purchase of $50,000, but will be able to depreciate the $160,000 over 27.5 years.

Is that correct?

Well, drats!  I had initially understood that the depreciation carried over...then I read other articles to the contrary. It would have been nice.  Thanks for all the input.

 The depreciation does carry over, but the gain is not depreciable. You are basically transferring basis and transferring gain. You get to keep depreciating what is left on your $50K and you add $10K of new depreciation. This is why I caution people to consider depreciation when doing an exchange. Depreciation is one of the largest expenses to offset income, so it can result in unexpected tax burden.

Originally posted by @Ross Shively :

So, there is really no way to get out of the taxes at all. Thanks for all the comments.

Well, there is one way but you might not like the answer. 😜  But hey, at least you'll depart with the knowledge that you're benefitting your heirs instead of paying taxes to the government because they'll inherit the property on a stepped up basis.

@Ross Shively

Consult with a CPA.

Doing a 1031 exchange and then immediately selling the property will not free you of paying taxes(Capital gains tax, depreciation recapture and state taxes).

Might want to see if you have some suspended losses to offset the gain.

Best of luck