1031 Exchange into REIT

[Pete Harper]

I'm doing some estate planning. My kids are in horror of inheriting and managing our real estate portfolio that includes multiple 1031 exchanges. These exchanges have almost no cost basis so they face substantial state and federal taxes if sold. Speaking with an advisor he mentioned doing a 1031 exchange into a upREIT. The advisor said I could sell the property and do a 1031 exchange through an intermediary into a qualifying REIT. When we die the REIT would get a step up in cost basis so our kids would not be liable for the original taxes. They then have the option of collecting dividends from the REIT or selling shares at the step up cost basis. Since my kids are all live tin Texas they avoid state taxes associates with original 1031.

Is my understanding correct?

[Conner Jackson]

@Pete Harper that's definitely a strategy people utilize in similar cases. Most likely, you would need to 1031 exchange into a DST property that will be eligible for a 721 UPREIT a few years down the line. I'll PM you to discuss some more details.

[Bill B.]

You need a new advisor.  

1) You can not exchange in to a REIT. You can only exchange in to REAL property. You don't own any real estate when you own a reit. (You can exchange in to a DST but then you have all the fees and none of the control and somehow even less liquidity than regular real estate.)

2) you get the same stepped basis with the property you already own, so your kids wouldn’t owe any taxes, they could sell before you were buried. Even if they waited a year they’d get to deduct all the selling costs, so unless they went up more than10% during that time (Oh, the horror.) they still wouldn’t owe any taxes. 

3) Any adult and most teenagers could handle a portfolio of 20 or less properties with a proper manager spending less than an hour a month in it. If you have more than 20 do some 1031’s into more expensive properties, they tend to be less Managment intensive anyway. 

Unless you expect to die this year. There is zero reason to reduce your returns for the rest of your life to make this simpler. Take 5 minutes to show them the difference the cashflow you get makes in your life versus a lump sum. I only have a dozen properties and yet 2 families could easily retire the next day if they inherited them. 

I’ll give you an exact opposite plan from yours that I plan to use. I’m going to leave the 12 properties to 6 families. They get to keep the income as long as they want. As soon as one wants to sell, the other 5 families choose 1 property to sell and the selling family gets all that money and is out of the deal. The other 5 families now split 11 properties, and so on. I’m hoping to make it a teaching moment of where the money came from. 

[Carlos Ptriawan]

Quote from @Bill B.:

You need a new advisor.  

1) You can not exchange in to a REIT. You can only exchange in to REAL property. You don't own any real estate when you own a reit. (You can exchange in to a DST but then you have all the fees and none of the control and somehow even less liquidity than regular real estate.)

2) you get the same stepped basis with the property you already own, so your kids wouldn’t owe any taxes, they could sell before you were buried. Even if they waited a year they’d get to deduct all the selling costs, so unless they went up more than10% during that time (Oh, the horror.) they still wouldn’t owe any taxes. 

3) Any adult and most teenagers could handle a portfolio of 20 or less properties with a proper manager spending less than an hour a month in it. If you have more than 20 do some 1031’s into more expensive properties, they tend to be less Managment intensive anyway. 

Unless you expect to die this year. There is zero reason to reduce your returns for the rest of your life to make this simpler. Take 5 minutes to show them the difference the cashflow you get makes in your life versus a lump sum. I only have a dozen properties and yet 2 families could easily retire the next day if they inherited them. 

I’ll give you an exact opposite plan from yours that I plan to use. I’m going to leave the 12 properties to 6 families. They get to keep the income as long as they want. As soon as one wants to sell, the other 5 families choose 1 property to sell and the selling family gets all that money and is out of the deal. The other 5 families now split 11 properties, and so on. I’m hoping to make it a teaching moment of where the money came from. 

 There's another product called UPREIT. Basically the process is like this:
 

Sell Rental --> 1031 into UPREIT DST --> REIT Stock ownership

During the end of REIT Stock ownership, you could time to sell the stock.

Comapny doing this for example is JLL REIT.

There's new UPREIT DST from 2 years ago that instead of commercial property, the holding are SF portfolio.

[Bill B.]

Learn something everyday. Thanks @Carlos Ptriawan. Still not for me, but assuming it’s gotten the IRS blessing it’s an option. I would have invested in REITs instead of real estate in the beginning if I thought they were better. It lacks the cashflow, the leverage or the tax advantages. Plus I feel like some of my money’s being siphoned off to help pay 100’s of other people.

But I do like to learn something every day. Thank again. 

[Jon Taylor]

Connor is right, you cannot 1031 exchange directly into a REIT.

In order to perform a tax deferred exchange into an REIT, you will take advantage of IRS tax code 721.

This requires that the buyer of your current property be a REIT, and allows you to exchange the value of the asset for equivalent ownership in the REIT.

Occasionally, a REIT may be interested in purchasing the property that you own currently; or you may work with the REIT directly to own a property that they would want to purchase in the future; or as Connor mentioned the most common way for retail investors to participate in this exchanges through the DST market.

The top 4 DST sponsors all manage, privately traded REITs.

You really need to have a fundamental understanding of the REIT before taking this step, as it will be the last tax deferred transaction you can control with that equity. I posted a fairly lengthy post on this forum on how to review a REIT.

If you haven’t read it yet, DM me and I’ll send it to you. 

[Carlos Ptriawan]

Quote from @Bill B.:

Learn something everyday. Thanks @Carlos Ptriawan. Still not for me, but assuming it’s gotten the IRS blessing it’s an option. I would have invested in REITs instead of real estate in the beginning if I thought they were better. It lacks the cashflow, the leverage or the tax advantages. Plus I feel like some of my money’s being siphoned off to help pay 100’s of other people.

But I do like to learn something every day. Thank again. 

Yes it's unpopular because after UPREIT you cant do 1031 anymore. I guess the best route for end of 1031 in my eyes is still converting the rental to primary or STR in vacation zone.

This UPREIT structure however, has many cons as always ,like high commission fee structure. So I would not expect large cash-flow either, I would expect the net CF to be same as today's CD.

[Pete Harper]

Jon and Carlos, Thank you for your detailed replies. I was missing the step of UPREIT DST. I'll read up more on tax code 721. I'm also looking at investment options using REIT.

I'm not ready to kick the bucket just yet. ;-) I'm doing some advanced tax planning and wanted to plan out the life cycle for the 1031s. When the time comes a REIT might be a good option. Meanwhile I'll keep building my real estate portfolio.