Building my team to do my first 1031

29 Replies

I have been reading, researching, & looking at properties for a few months now, but I need to get serious and start building my team to help me through my first 1031. My property is in SoCal, but I live in Michigan. I know CA has a law that if I reinvest out of state then upon sale of the acquired property I would have to pay the CG taxes on the relinquished property. I’m willing to look in CA, but I’m not sure I can find the same cash flow that I can in other parts of the country. I am looking at small apartment buildings for my new investment. 

To build my team I am thinking I need the following:

- 1031 intermediary

- residential agent to sell current property

- commercial broker to find new property 

- tax accountant (My current CPA is in MI) 

Am I missing anyone? Does it matter where the QI & accountant are based out of? Should I find an area of the country to invest in or find a broker who can find properties that meet my criteria and then decide if that area fits my investing needs?

Any advice or recommendations would be greatly appreciated! If all goes well I may consider doing the same with another Ca property I have that has also appreciated very nicely. 

@Michele G. ,  There's a lot of folks feeling the same tension between appreciation and cash flow with their CA properties that you are.  Looking outside the state can be a good move.   Even in CA though you can still take advantage of the advantages of a 1031 exchange.  Your accountant will inherit the reporting requirements necessary for you to continue your tax deferral once that property leaves the state.  The 1031 is still available to you if you move your property out of state but there are some reporting requirements that your accountant will need to be familiar with although they don't necessarily need to be CA based since so much of your life is outside CA anyway.

Since 1031 is a federal statute followed by the states and since so many transactions start in one state and end in another, you'll want to focus more on QIs with demonstrated experience nationally and get the one on your team that works best with your accounting and legal professionals.  The 1031 is an important piece but it's still a small piece of your overall picture.

Unless you're looking in your backyard you'll want a strong property management team.  And if you're looking in your backyard then you're going to have to find vendors of all kinds who can be go to's from electricians to roofers etc.  

And when looking at commercial brokers you'll maybe want to spend some time differentiating between those who specialize in sales and leasing.  This too can aid you in your search for property management.

@Michele G. If you are a high paid professional I would recommend against the 1031. You are just delaying the taxes.

I did one a few years ago when I traded 2 properties for 9 turnkey rentals and totally regret it. Reason being is that it is not a like kind exchange with LLCs (private placements / syndications).

@Katie Lepore So I need a Ca CPA and a MI CPA? Or can my MI CPA suffice?

@Lane Kawaoka How did the 1031 negatively affect you? Was it due to what you exchanged the property for? I am looking at exchanging a SFH into a small apartment complex (10-20 units depending on where I find property). From my understanding that would be a like kind exchange. Would my income level have any impact on my exchange?

@Michele G.

If your current MI CPA is familiar with CA laws then stick with him/her. If they are unfamiliar then maybe best to engage a CA-based CPA. 1031 exchanges is federal law so most CPAs should be familiar with it, it’s just the California source income that you need to worry about. Probably a nonresident return. Without knowing your full picture or your CPA’s qualifications I can’t say what you need to file or who you need to talk to but my guess would be you could stick with your MI CPA. Ask them after tomorrow (tax deadline) if he’s comfortable or familiar with your situation.

HI @Michele G. , I'm in the midst of a 1031 and since the market is so hot I strongly suggest you find your replacement property first before closing on sale of current property as the 45 day ID period will fly bye.  Also, I would suggest you get an accountant, Tax, QI and Attorney who all work together or at least can communicate.  While the 1031 is a relatively simple thing there are a lot of little nuances that you (and your team) want to pay attention to so you don't void the 1031.  

BTW, keep in mind there are a certain expenses that are normal to acquiring replacement property that 1031 funds will NOT be eligible for...NOT an Attorney, CPA, etc, etc....like Loan Application Fees, Lender's Title, Appraisal Fees, mortgage points and assumption fees, etc.   

Depending on deal, these might not be much. We are in process of acquiring 5 separate properties from 1031 and these items are requiring us to bring six figures in additional equity to closing tables. With that said, we are able to defer a large amount of taxes. BTW, we are doing this with an syndicated LLC.

@Lane Kawaoka , if you don't mind, please elaborate further on, "I did one a few years ago when I traded 2 properties for 9 turnkey rentals and totally regret it. Reason being is that it is not a like kind exchange with LLCs (private placements / syndications)."

Best of luck Michele!

@Michael Anspach Thank you. I am trying to find the properties to identify first. We are looking at a six figure tax bill from the sale of our property if we don’t do this right and on time. That’s why I want to build my team now so I can start the process with all of the players involved. I will add attorney to my team. I know some expenses can’t be covered by the 1031 funds, but I will need to review those. Are you saying the attorney, CPA, etc fees are allowed expenses, but not certain fees related to the closing?

@Katie Lepore I will talk to my CPA later this week or next week.

@Michael Anspach

The 1031 exchange is a method of pushing forward the taxes due on the capital gains of a property. You have 45 days to identify replacement property that 180 to close on said property(s).

Its a way of kicking the can down the road with taxes. I personally that you have to pay taxes at some point unless you are going to take it to the grave with you which is not very practical due to the following.

1) The 45 days is almost impossible to execute. To be able to line up a deal that is “hot”. Experienced investors spend an average of 18 months to find that elusive first apartment. Now if you are buying lukewarm deals… then be my guest. But in this seller's market, I think its a way to lose everything.

2) Most investors that I work with are high net worth and able to cashflow income minus expenses over $30k a year and have over 50K of liquidity on hand. I believe that most people, unless they are talented at being an elite investor, should just be an LP role in a syndication due to the scalability and being able to spread their capital across different leads, business plans, asset classes, and geographical locations. That said a 1031 exchange will not allow you from going from real property to an LLC (ownership in a syndication). Although you could do what is called a Tenant-In-Common (TIC) arrangement where an investor has 1031 exchange funds and wants to parlay that money into a syndication. It's possible but from the syndicator's perspective a lot of unneeded work when you can just raise the funds the traditional way. Caveat: if you are bringing in a huge amount of money say 50% of the raise then that might tip the scales in your favor)

There are reverse exchanges and other more exotic exchanges but I personally not sold on the concept when the IRS comes knocking. I am not a tax professional but I feel it is tax evasion.

@Michele G. Advice for a high paid professional...After over 1000 strategy calls with investors and coaching clients over the past couple years here is what I tell W2 employees... For those who are able to save more than $30k a year or have substantial liquidity (over 200k), being a landlord and especially flipping is a lot of work. If you like it cool/good for you... but just remember why we got into this... To be free from a JOB. A lot of us (80%) who stumble upon simplepassivecashflow.com and start drinking Kool-Aide will be financially free in 4-7 years pending taking action. So I always urge people to start with the end in mind and take a more passive approach.

Do the math here… you with 300 dollars per property (2 months of work to buy a turnkey rental) you are going to need 20-40 of these to replace your income. I have 10 of these and have systems in place but have 1-2 evictions a year and 3-4 big things that happen. Image if I had 30, just 3 x those numbers.

Directly investing in a turnkey rental or small MFH is a good way to start to learn and build up the war chest to go into my scaleable investments such as private placement syndications. Whatever you do, try to be as close to the investment as possible. This is the fundamental problem I have with Wall Street who takes too much fees off the hard-working efforts of the middle class. 

@Lane Kawaoka , It's kind of irresponsible to call certain actions that are codified, regulated and practiced thousands of times a year under specific IRS guidance tax evasion!

For full disclosure I am an intermediary for 1031 exchanges.  But I have also used them myself and will continue to do so.  And  I'm OK if you don't like them.    But to call it tax evasion is false and reckless and exposes a lack of understanding of the specific statutes and subsequent decades of case law in sec 1031, Rev procedure 2000-37 (the safe harbor reverse exchange), rev procedure 2002-22 (Tenants in Common syndications), Rev procedure 2004-33 and 86 (Delaware statutory trust), and all of the various regulatory guidances we have for using 1031 exchanges in conjunction with personal property, vacation property, primary residences, retirement, and estate planning etc.

The 1031 has for many decades been the  method of deferring tax on the sale of investment real estate.  And while it is indeed  at face level only indefinite deferral.  To simply stop there is a very shallow look at the impact that the statute has had on real estate investing over the decades.  There are several methods used by wealthy and regular folk alike to use those deferred dollars to generate tax free income and then pass assets to heirs tax free.  

And quite frankly as someone with children and hopefully grand children and causes I want to support with a legacy after I'm gone -  these are strategies I encourage in my own behavior and other as opposed to a philosophy of "who dies with the most toys wins".  Not to mention that the tax free income through my lifetime is awfully sweet.

Whether a 1031 exchange is right for an individual or not should be made by specific situational analysis not blanket like or dislike. 

Lane giving false information to sell something again.

1031s are a very effective and widely used tool for real estate investors.  To say they should not be done is irresponsible.  

 I have my MSA. I understand the difference between tax evasion and a 1031. I don’t work with 1031’s so my knowledge there is very limited. 

My husband & I are self employed. We love our businesses and have no desire to give them up. We are simply at a stage where our companies need less management on our part. We have accumulated quite a bit of equity in our properties and I would love to use that to scale up. Our “exit strategy” is to continue holding our real estate to pass on to our kids and grandkids. That’s what my dad did with me and it’s why I have so much equity in our buy & holds. I have been very blessed to have very little problems with our SFHs. Tenants have been there for 6-10 years in all of them, rent is paid on time, & we have never had to evict someone. I feel I pay a large enough sum of income taxes so if the IRS wants to allow me to defer my capital gains taxes I will happily do so as long as they allow it.

Thank you all for your advice! I am enjoying learning about real estate investing. It has so many facets and strategies for all different types of people and goals.

@Lane Kawaoka I don't know where you've got this impression that following the tax code (1031 exchange) is tax evasion. 

@Dave Foster has provided a reasonable reply with nuance that I would suggest you read again. You've give a disclaimer "I am not a tax professional..." and then do the exact opposite - provide a misleading response with little or no basis in reality.

Do your "feelings" also consider charitable contributions, depreciation write-offs, installment sales, mortgage interest, writing off business expenses as tax evasion tactics? 

More importantly how can I, like you, use my feelings as a barometer for what is legal or illegal?

Most folks who've been making decent money want to leave a legacy - for their kids, community and causes they believe in. There is nothing devious in that. 

You should be careful in providing information on topics in which you have minimal insight. It can have serious repercussions as it can affect someone's financial quality of life. 

@Karen T. lol

@Michele G. My parents have gone through the same stage in life (as my grand parents did earlier) as you guys are going through. Years of hard work in building your business/portfolio can be wiped away by a few  untimely decisions. Great to see you guys are taking the right actions and proactively managing your tax situation. 1031 exchange and other tax deferral mechanisms are a great way to leave a legacy for kids/grand kids to ensure that they can continue to benefit from your hard work/sacrifices for a long time. 

Plus, it's like the old campsite rule: You leave every place in a better shape than you found it.

@Michele, thank you for bringing up this post; I am doing the exact same thing - researching, researching!  I am clearly in the even earlier stages since I did not know one has to pay CG taxes if property is being relinquished and reinvested out of state of CA.  I am seriously contemplating exchanging a property in CA to several properties out of state (for better cashflow) I guess my question is...what is the point in doing 1031 if you're gonna have to pay the CG? Thank you in advance for sharing your insight.

@Mabel L.  

"what is the point in doing 1031 if you're gonna have to pay the CG?"

Just to be clear, that capital gains tax that will (in theory) eventually be paid to California (the "clawback") is deferred along with the rest of the capital gains insofar as there is no boot in the transaction...it does not have to be paid immediately...

@Mabel L. , @Logan Allec is spot on.  You can continue to defer tax and depreciation recapture on CA property indefinitely whether or not you continue to reinvest in CA using the 1031 exchange.  The "claw back" provisions are an extra layer of reporting the CA Franchise Tax board requires.  If you ever eventually sell the property without a 1031 then CA will want tax on the profit it attributes to the time the property was in CA.

@Logan Allec & @Dave Foster   Thank you for the clarification.  What if I later 1031 those out-of-state properties and exchanged for one back here in CA?  Could I escape the claw back provision?

@Mabel L. , as long as you keep 1031ing the claw back doesn't affect you other than the annual reporting requirements.  If you eventually sell without a 1031 whether in CA or out they will get their pound of flesh :)

@Michele G. I have used @Dave Foster for a lot of my 1031 clients- I can't recommend his company enough!!! And No, he didn't pay me for that! :) they are awesome to work with and if you need a good lender who works great with Dave's team, lmk!!

Best of luck! Best time is to sell high and buy low-- suggestion would be to move into markets that are still recovering from 2009. There are a lot out there.... AL, Memphis, KC, Indy, Ohio, etc. 

Thank you for the recommendations @Melissa Nash I need to get my team in place so I can find a replacement property. I’m stuck in an over analyzing mode.

@Michele G. I totally get it! Don't get too stuck in analysis paralysis :) Get your team and start investing-- that is the fun part! 

Hi @Michele G. !

Everyone is guilty of over analyzing from time to time. At least you recognize it and are ready to take action.

I’d be more than happy to help fill the remaining voids on your team. Shoot me a message and we can chat!

You indicated on a different thread that you acquired these properties via inheritance but did not state who you inherited them from or what percentage of the equity was present when the properties where inherited.

Properties inherited from certain family members get value adjusted at the time they are inherited.  For simplicity, lets say that the equity is $1M rather than the values from the other thread but that the equity was already $500K when inherited.  Your total gain would be $500K but probably is not spread evenly across the 3 properties.  So you may have a property with minimal taxable CG and therefore does not require the 1031 exchange.

I would start with trying to determine the CG on each property individually.  It may show that a 1031 exchange is not needed for each of the properties.

Good luck.

@Dan Heuschele Legally I did not inherit the properties. They were transferred to me before death so I can’t take the stepped up basis which really stinks because my basis is roughly $150 in each with low or no mortgages. I refer to them as being inherited because I did not buy them. The equity is spread pretty even among the 3 since they’re all condos in the same area purchased within 10 years of each other during the housing crash in the 90’s. The property I am considering selling is the one with the least CG. All will be fully depreciated in the next 4-6 years. 

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