$25K property to a $400K Lake House using 1031 exchanges

45 Replies

About 2 years ago I drove by this horribly ugly blue house that I could barely see from the road. I had been reading BP posts about driving for dollars and finding the seller to buy it. After an hour of google searching, I found the owners phone number and the rest is history. Finished the remodel and placed a great tenant on a 2-year lease. After 11 months into a 24-month lease, the tenant advised me they needed to break the lease. My wife and I decided to sell the property to buy something else and utilized our first 1031 Exchange. Using simple math we purchased the property for $25K put about $45K into it and sold it for $155K netting roughly $82K after closing costs. So rather than paying around $32K in taxes we did a 1031 exchange on this property.

$25K before

After

We did have three properties picked out for the 1031 exchange since you are supposed to name the addresses with 30 days and close within 180 days but 2 of the 3 fell apart two weeks in. We did close on one of them. It was a $50K rental utilizing the 1031 exchange that we still own and it rents for $900/month. This property was purchased through a craigslist transaction. It only needed a roof but the interior was good to go. I agreed to purchase the home and the seller used me as his Realtor to buy their next home netting me around $6,500 in commission which covered the entire roof. After purchasing the rental that left us with $102K in the exchange to buy something else with. We ended up finding a property on the MLS that we closed on for $125K. I had to supplement the extra $23K but it was worth it to avoid taxes on the first property.

$50,000 rental

This property we purchased for $125K with the remainder of the 1031 Exchange turned into a bigger project than expected. We closed on it in Nov of 17’ and decided in January to turn it into a flip versus a rental. Our original intention was to make it a rental as we don’t typically flip properties. I confirmed with several 1031 experts that we could sell it and do another 1031 and they all confirmed this would be ok assuming we don’t continue to do this and we do not plan on ever doing it again. We purchased this one for $125K had about $40K into renovations and holding costs and sold it for $225,000.

$125K purchase before

After 

While I was finishing up the rehab on the $125k house my attorney gave me a lead on a couple going through a divorce. They owned a house on a very popular lake not far from where I lived and we have always wanted a lake cottage. I made them an offer and they accepted at $270K. We closed on the $125K house that sold for $225K netting around $220K after closing costs and $55k profit after remodel and expenses. We did another 1031 exchange (saving around $21,450 in taxes) and purchased the lake house for $270K using the 1031 funds and supplementing another $50K cash. We intend to turn the lake house into a weekly rental for around $2K per week on the weeks we don’t use personally during the summer.

Lake house 

Now you would think it ends there but never with Real Estate investing. I found a local bank that will give me a line of credit on the two paid for properties I have acquired through the 1031 exchanges (Lakehouse and rental for $50K) at 75% of appraised price so around a $350,000 LOC I can use to buy more properties. I already have a 5 unit under contract using this LOC and plan on using this for years to come.

A quick summary of the numbers

Total cash out of pocket invested:

$25K house A purchase price

$45K house A renovations

$23K house B extra cash need for house B purchase

$40K house B renovations

$50K Lake house extra cash needed for purchase

$183,000 total cash invested

$53,450 saved in income taxes using 1031 exchanges.

Values of what I own now from this:

Rental house market value of $90,000 and rented for $900/month

Lake House market value of $400,000

Line of credit $350,000

We are very happy with how everything turned out and we have that 25K rehab to thank for it.

wow that's awesome! 

Talk about goals to have! Congrats!

Nice job and thanks for sharing the details and pictures!

Thanks @Mike B. & @Wendy Patton

I didn't start this with any particular goals in mind but once everything started to develop the pieces fell into place and worked out well. 

Jake, thanks for sharing this!  I'm sure a ton of people will find it inspiring.  :)  That kitchen remodel is like night and day!

Awesome work Jake! Way to upscale! 

One question for you, what do you mean by this statement? "I confirmed with several 1031 experts that we could sell it and do another 1031 and they all confirmed this would be ok assuming we don’t continue to do this and we do not plan on ever doing it again." 

Are they saying you can never do another 1031 exchange? I didn't realize there was a limit to how many.

@Jake Thomas really inspiring story here and the pics are great! My accountant told me generally the statute of limitations for what goes on in a 1031x is 3 years, so I do not understand the nature of the limitation imposed on you by the experts or by yourself?

Very inspiring story @Jake Thomas ! I am originally from Grand Rapids, MI and have been starting to evaluate rental properties in the area again. Would love to connect and get your take on the rental market if you are still investing locally. 

@Jake Thomas , I'd echo the thought behind the question @Jay Kadlec poses.  Every 1031 exchange stands on it's own merits.  To tell you that a 1031 in one instance is "OK if you don't do another" is flat out wrong and incredibly ethically flexible.  Either you shouldn't have done it in the first place or it was OK and every time you need to do a 1031 and you meet the criteria you should be able to do so.

With the 1031 exchange it is your intent that is key.  If you purchased your investment property with the intent of holding for productive use then it the 1031 is appropriate.  I'm no sure what the 1031 sources were telling you but there is no statutory holding period.  Yes, longer is better than shorter (remember you're wanting to differentiate between buying primarily to resell and buying to hold) but most folks feel good at anything more than a year. From what I read above it appears that your intent with the first property was clearly to hold for productive use.  The second property you still hold.  

It's that third property that is your kryptonite.  The question really is did you buy it with the intent to hold and then something changed your intent.  Or did you buy it with the intent to resell (flip) and the 1031 company decided you could get away with one.  That's kind of disturbing if thats the case because there are plenty of legitimate reasons to change your intent (and in this case I do agree that an accident once in a while is fine but a patter of lucky accidents is not so bueno).  Again, your intent sounds like it was to hold and something happened to change that intent - that's fine. 

And most importantly it doesn't have any impact on future exchanges at all.  If you buy property with the intent to hold for productive use and it is now time to sell you can afford yourself the 1031 every time it is appropriate.

Any more "accidents" where you finish up a 1031 and then decide that the property really is a better flip should probably not happen.  But use the tool whenever it's appropriate case by case.

Never do something just because you can get away with it.  But don't ever not do something you can just because it might be questioned.

Congrats on the deal path BTW - that's awesome!

Did you use  the $125k house for 1031 without ever even renting it out? If so,  I would highly advise against that in the future 

Congratulations on working your way up to the lake house from that first 25K property. I enjoyed reading the article and especially enjoyed reading all the comments.

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Thought I was told I couldn't 1031 exchange and use it for myself more than 2 weeks out of the year....  ???   Otherwise I would get me a nice vacation house...  :0

@Jay Kadlec   & @Bjorn Ahlblad  & @Dave Foster to answer your questions I originally bought the house that was $125K (fancy kitchen pic) with the intent to make it into a rental. We own 3 rentals in the same town and never flipped a property there.  You are not supposed to flip a property with 1031 funds since that is not an investment but that was never my intention when we purchased it and my business model is rentals. We do not traditionally flip homes so my CPA and several 1031 Exchange experts said this would be ok for a one-time thing since I was going to transfer it to buy-and-hold property.  I did however eventually transfer the funds from the original investment property to the lake house which is an investment property and weekly rental starting this summer.  I have no intention of selling this final property anytime in the next 5 years. 

I hope this helps clear things up. 

Jake Thomas, nice set of transactions, congrats!!.

Could you share more pictures of your kitchen remodel on your 125K house? that looks awesome.

Also, you said that you put $45K into house A renovations.  Could you provide a short list of what was renovated? so we can get a better idea of how your renovation dollars were allocated to maximize value. i.e. 

Thanks.

Awesome work Jake! Mind me asking what you used for your out of pocket expenses? Savings? 401k? Other?

Seeing this in practice really makes me believe!

That's what I'm talking about!! Reminds me of the Robert Kiyosaki's journey in Rich Dad Poor Dad! Way to go!

this is awesome. The one thing to be wary of is the balance of the lake house truly being an investment versus personal use. They have very strict rules on this and given what you stated in terms of renting it out on the weeks you don’t use it, you’ll be triggering s big tax payment due. Now if you’re up there “working on it” each time you use it, you should be fine.

2 weeks plus there are rules on the percentage of time it’s used as a rental versus personal use.

Very nice work Jake! That kitchen looks amazing. I'd like to RSVP for the lake house celebration party haha :)  It would be very useful to see how you allocated renovation budgets as Al Mac suggested. 

This is really a smart move.  Your instinct is very keen and you act quick. your renovation on the 125K kitchen is great, make sense & better use of the space. Great job. 

@Jake Thomas what an inspiring story and creative way to use your 1031 exchanges to your benefit. Agreed the "flip" is questionable as a qualified transaction, but you seem to be clear since it's been completed. Some ambiguity in the recommened intent or hold time of exchanges as @Dave Foster mentioned with his sage knowledge. Aside from that the visuals really put this together for everyone to enjoy and learn from. Thanks for sharing!

Well done and very inspiri!

Would like to get a few references for 1031 attorneys / CPAs in the Atlanta area if possible, anyone have recommendations? We have a few deals in the works and I would like to consider 1031 for one of them.

awesome, congrats on your success thus far. Continue to rock in real estate and keep sharing your story to inspire others.

@Al Mac    some more pics of the $125K house below. 

As for the first house we did a new roof, windows, doors, siding, drywall, electrical, plumbing, kitchen and baths. I have a couple employees that help. I don't hire much out if I don't have to. 

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