1031 Help! 3 Rental Property exchange for specific raw land

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1031 Help! 3 Rental Property exchange for specific raw land

Angela P.
Investor · Thornton, CO · Member since 2013 · 22 posts · 2 votes

Hi Everyone - here's the facts, can someone help me understand if I am going to run into any issues or if this will work and I should pursue? 

I have three rental properties I am interested in selling and buying raw undeveloped land (for investment for at least a few years - and then I will either sell it, or I will build on it and use as my future primary residence). 

Property 1 - $305k value, $146k debt = $159k equity (**note, this was once my own personal residence, has been a rental for 7 years-does this matter??)

Property 2 - $307k value, $155k debt = $152k equity - held for 5 years

Property 3 - $298k value, $136k debt = $162k equity - held for 3 years

Purchase property - undeveloped land - for sale for $475k 

Questions:

Is it as easy as selling the rentals, sending the cash to the intermediary, identifying that I want to buy the land, having the intermediary buy the land with the cash? 

If I hold the land for a few years (how many?) and then decide I want to make it my personal home - do I indefinitely defer the gains on the rental properties?

Thank you in advance for your guidance!

Angela

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Dave FosterBusiness Member
Qualified Intermediary for 1031 Exchanges · St. Petersburg, FL · Member since 2013 · 9k+ posts · 9k+ votes
5y

@Angela P., Well your plan is doable but there's some road blocks you'll want to watch out for.  Here's a couple thoughts.

1. Your residency of the one property is past the dates that would have given you that profit tax free.  So it is now just an investment property like all the others.

2. In order to defer all tax you must purchase at least as much as you sell and you must use all of the proceeds in the purchase.  If you sell all three and want to 1031 that would mean you need to purchase at least $900K ish in real estate using all $473K ish of proceeds.

So you can purchase the undeveloped land, hold it for investment, later convert it into a primary residence or build on it.  But It would only eat up $475K of the reinvestment target and would need to purchase another $425 K or so if you want to defer all tax.

Yes, as long as you own the replacement you will continue to defer all tax.  Or if any time you sell and do another 1031 you'll continue to defer all tax.

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  • Bill ExeterBusiness Member
    1031 Exchange Qualified Intermediary · San Diego, CA · Member since 2008 · 1k+ posts · 1k+ votes
    5y

    Hi @Angela P., 

    You are selling three rental properties for $910K.  This means that you need to acquire one or more replacement properties valued at $910K or more (this is ignoring routine selling expenses that can be subtracted from the $910K). It is not just the cash equity that needs to be reinvested.  The government is essentially letting you defer your taxes if you remain fully invested at the current level, which is $910K. 

    The key issue or requirement is that you have the intent to hold the raw land for rental, investment or business use.  Your intent can always change later, but you current intent must be to hold for investment purposes.  Should you change your intent and build a home to live in, it will not trigger any taxable gain when you move in.  You would just change the way you report the property for tax purposes.  The taxes would be deferred until you sell the property and "cash out."  

    You would qualify for a prorated tax-free exclusion as long as you live in the property as your primary residence for at least 2 years.  The capital gain (not depreciation recapture) would be prorated between the number of years that you lived in it versus the number of years that it was held for investment. 

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  • Basit SiddiqiBusiness Member
    Accountant · New York, NY · Member since 2015 · 8k+ posts · 3k+ votes
    5y

    @Angela P.

    You need to buy atleast the value that you sell.

    The value of the replacement property appears to be less than the 3 properties you are selling.
    You are either going to recognize a gain or have to buy more replacement property for it to be fully tax deferred.

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  • Angela P.
    OP
    Investor · Thornton, CO · Member since 2013 · 22 posts · 2 votes
    5y

    Hi @Bill Exeter - Thank you! Wow, that is great information. Actually works out better as I can just sell 2 of the three properties instead. 
    I will need to take out a loan for the remaining cost of the land for the difference - is that OK and would those loan funds just have to go to the intermediary?

    I think the primary intent is truly to hold for investment - we don't foresee leaving our home, and frankly I am not sure if we did leave we would have any interest in a custom build from scratch so I don't see that as an issue. 

    I believe the ONLY way to do this appropriately is to use an intermediary - this is required right? Presume that is what your company does? Other than commissions to sell the two rental properties, and closing costs on buying the land investment - what kinds of fees from other arenas am I looking at? Presume the intermediary is a costs - how can I ball park this? Any other costs I should be aware of? I would hate to sell these properties, just to figure out that we didn't have enough money after everything is taken out to buy the land. 

    Thank you!

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  • Wayne Brooks
    Real Estate Professional · West Palm Beach, FL · Member since 2012 · 23k+ posts · 13k+ votes
    5y

    @Angela P. If you sell 2 properties, you’re still selling over $600k if property, say $550k ish after costs. Buying $475k worth thru a 1031 would still leave you up to $75k (Boot)of gain/recapture you’ll still have to pay taxes on. If your cap gain/depreciation is less than $75k....no advantage to doing a 1031. 
    A 1031 is not expensive, most QI’s charge less than $1k for a typical one. 

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  • Dave FosterBusiness Member
    Qualified Intermediary for 1031 Exchanges · St. Petersburg, FL · Member since 2013 · 9k+ posts · 9k+ votes
    5y

    @Angela P., Well your plan is doable but there's some road blocks you'll want to watch out for.  Here's a couple thoughts.

    1. Your residency of the one property is past the dates that would have given you that profit tax free.  So it is now just an investment property like all the others.

    2. In order to defer all tax you must purchase at least as much as you sell and you must use all of the proceeds in the purchase.  If you sell all three and want to 1031 that would mean you need to purchase at least $900K ish in real estate using all $473K ish of proceeds.

    So you can purchase the undeveloped land, hold it for investment, later convert it into a primary residence or build on it.  But It would only eat up $475K of the reinvestment target and would need to purchase another $425 K or so if you want to defer all tax.

    Yes, as long as you own the replacement you will continue to defer all tax.  Or if any time you sell and do another 1031 you'll continue to defer all tax.

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  • Angela P.
    OP
    Investor · Thornton, CO · Member since 2013 · 22 posts · 2 votes
    5y

    @Wayne Brooks,

    Thanks for taking time to respond. So I see now that I'll have some boot. I had in my head that I was only deferring the profit, not the full value. If I see two of them for $600k (or as you say $550k after costs incurred) I will have to pay on the $75K. If I were to sell those two and buy nothing, wouldn't I have approx $315K of profit taxed? 

    Wouldn't $75K be better than $313K? I am sure I am missing a factor here - if you are saying that paying tax on the $75K isn't worth it - might just need some more information for what I am missing here. 

    Thank you!

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  • Angela P.
    OP
    Investor · Thornton, CO · Member since 2013 · 22 posts · 2 votes
    5y

    @Dave Foster - thank you very much for taking the time to respond! 

    This breaks down each question for me in detail - very helpful. I've learned a ton from you guys so far!

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