1031 Commercial Deal - Price Reduction or Escrow

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1031 Commercial Deal - Price Reduction or Escrow

Anwer Shaikh
Member since 2020 · 2 posts · 1 vote

I have a friend who is under contract on a commercial property and him and I were discussing his 1031 situation and I thought I would get an opinion from the experts in this forum. 

Property Purchase : $4.0M 
1031 Exchange Money: $1.05M

He has loan approval at 25% down for the commercial property and he will be pretty close to being completely wiped out with attorney fees and other allowed 1031 expenses. 

There are some issues that came up with the property inspection and it needs a new roof, new commercial rtus, and repaving the parking lot. The total credit he is asking the seller for is 300K. He is wondering if he should take the 300k as a price reduction (leading to boot from 1031 as he does not want to go higher than 25% down payment) or if he can avoid boot by keeping the price the same and take the 300k in a capex escrow account with the title company to be used for repairs over the next year (title company and bank are ok with this). His QI is telling him the escrow would also be considered money received at closing but falls in a gray area if audited. The seller doesn't want to do the fixes prior to closing but is ok with the 300k credit. 

Any insights would be appreciated or any other ways to utilize the 300k in credits.

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Bill B.
Investor · Las Vegas, NV · Member since 2013 · 8k+ posts · 10k+ votes
2y

Phone a friend. @Dave Foster ?

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  • Bill B.
    Investor · Las Vegas, NV · Member since 2013 · 8k+ posts · 10k+ votes
    2y

    Phone a friend. @Dave Foster ?

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  • Dave FosterBusiness Member
    Qualified Intermediary for 1031 Exchanges · St. Petersburg, FL · Member since 2013 · 9k+ posts · 9k+ votes
    2y

    LOL @Bill B., almost no ones old enough to remember that reference :). @Anwer Shaikh, It's not gray at all.  that escrow will have to go onto the settlement statement in order to be tracked.  As well as in an addendum to the contract.

    This means it is a sales concession and will be boot to him.  I think he'll probably be better served simply taking $360K in boot (to offset taxes as well).  And then put the money into his own HYSA so it is earning a little interest for him while he starts to spend it for his repairs.  He's going to pay boot tax anyway.  But this way he gets to recoup some of it.

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  • Anwer Shaikh
    OP
    Member since 2020 · 2 posts · 1 vote
    2y

    @Dave Foster I remember phone a friend. Although sometime these 1031 scenarios seem like 50:50 :)  I would greatly appreciate it if you could shed some light on one other thing that is happening in this purchase. The purchase is for a single tenant triple net retail space. The tenant lease states that the tenant is responsible for paying property taxes unless the property tax increase is due to the sale of the property in which case the tenant is excluded from the property tax increase for a period of 5 years. Current tax value of the property is 800k less than purchase price. The county is very proactive in updating tax values in year of sale. The brokers calculated a jump of 30k in property taxes after sale. The seller agreed to put 150k (30k*5years) in escrow. Every year the title company will review the property tax statement and will pay the increase in property taxes from escrow to the buyer up to an amount of 30k so he can cover the difference in the property taxes. If the property tax increase amount is under 30k the seller gets reimbursed the difference for that year. Any amount left over at the end of year 5 is also reimbursed to the seller. Would this constitute a boot of 150k to the buyer as well? QI is telling my friend (buyer) this would not constitute a taxable boot as the money is not guaranteed to the buyer. 

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  • Dave FosterBusiness Member
    Qualified Intermediary for 1031 Exchanges · St. Petersburg, FL · Member since 2013 · 9k+ posts · 9k+ votes
    2y

    @Anwer Shaikh, LOL so was phone a friend as I recall.  It wouldn't be boot.  But I think more because it is not a cost of the sale.  It is a hold back or proration of sorts for an operating expense.  Taxes are typically classified as expenses and deducted as current operating expenses.   Holding back money to pay a future current operating expense would be reported on that years tax return.  So it wouldn't be considered a cost of the purchase.

    In which case, your friend wants to make sure that the purchase price of the new property is enough to cover their reinvestment requirement without that hold back.

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