1031 exchange not investing all $. Will that $ get taxed?

[Andy Lanyi]

I am not understanding the 1031 exchange process quite right. Is it true that when you do the 1031exchange and you do not spend all the money on the next purchase that that money will get taxed as capitol gains. As an example you you purchase a pice of property for $1,000,000 you sale it for $2,000,000. Then you buy another property for $1,000,000. You do not invest the other $1,000,000. When you first invested your money it was all cash. So now you can not pull your money out with out getting it taxed? And if you wanted to be your own bank and take back a first of lets say 1,000,000 and the buyer pay you $1,000,000. Would you get taxed on that first $1,000,000.I thought that would be a good way to not get taxed, you being the bank and taking the first on the property. 

[Dave Foster]

@Andy Lanyi, the answer is in your statement.  The requirement to defer all tax is to purchase at least as much as your net sale and use all of the net proceeds in the purchase or purchases.  The IRS is expecting you to go forward with all of your original basis and profit.  And that is the problem.  In your scenario you want to say that the $1 mil difference represents a return of your original capital (not taxable).  The IRS says that any amount you purchase less than you sell.  Or any cash you take out of the sale is first going to be considered profit.

Same $ 1 mil.  You say it's basis and not taxable.  The IRS says it's profit and taxable.  Guess who wins that argument.

In the case of you carrying back a mortgage and being the bank, the note and the cash are both considered  proceeds of the sale.  In order to defer all tax you must use all of the proceeds from the sale in the purchase.  So either the note must b used in the purchase.  Or you need to convert it to cash in your exchange account.  Or the same scenario again happens.  You interepret the mortgage note from the buyer to be a return of your non-taxable capital.  The IRS interprets it as taking profit.

They're just not going to let you take cash out or buy less without them receiving some of their tax!

If you're wanting to get access to some of your basis to get some chips off the table then do a complete 1031 sell, and buy at least as much as your net sale.  Then after the 1031 is complete do a cash out refinance.  The cash out is not a taxable event.