Would you ever not do a 1031 exchange?

Question

Dave Foster · Answer

@Christopher Gilbert, I like your idea to exploit regional differences in return by buying elsewhere for a better return.  But I don't understand why the 1031 kept you from doing that. Doing a 1031 does not restrict you to any type size or location of your replacement real estate unless there was something else going on for you.

Best of both worlds - 1031 and go to a region of higher return.

@Tj M. Your situation is a little unclear.  If you've sold your properties already and have not started a 1031 you're too late anyway.  The 1031 must be in place prior to the close of your sale.  From that date of sale you have 45 days to identify your potential replacements and also from the date of sale you have 180 days to close your purchases.

Never never never buy bad real estate just to fill a 1031 quotient.  If your accountant is right and you'll owe 20K in taxes but to avoid that you pay $40K more for those properties than their worth you start out having lost $20K from the outset.  Do good analysis and then stick to those numbers and live by them.

The reason the timelines are set up the way they are for 1031 exchanges ensures that your exchange will never cross over the next tax filing.  In other words it's designed for you to start a 1031 and give it up if you can't find what you want.  No penalty for trying and failing to finish other than the exchange fee.

Christopher Gilbert · Answer

I did a 1031 about two years ago and I think the big lesson learned was that I would not buy new properties in the same area that I sold my old one.  We sold our property in a high market but in turn had to buy two in the same environment so the numbers were only average.  We were able to turn one properties equity into two properties and increase the cash flow which was worth it but I am not sure that I would do it again.  The short identification period and a hot local market made it tough to really get deals and financing lined up.

Some things I would change:  I would consider selling in my local market (which is high) and buying in some other part of the country where the return would be greater.  Long term capital gains is about the lowest tax bracket you will ever see in your lifetime so there is nothing wrong with taking advantage of it.  Also you can do whatever you want with the remainder instead of having it tied up with a return that you are not happy with.

Russell Brazil · Answer

Just sold a house last year with about a 250k gain and I elected not to do a 1031. I wasn't going to be forced to buy a property I didn't want just to avoid some taxes.

Drew Reynolds · Answer

@Ralph R.  - a 1031 exchange does indeed defer the depreciation recapture in addition to capital gains. Note that you are deferring both capital gains and depreciation recapture, not eliminating them.

@Tj M. - Bad real estate is bad real estate, even if it is acquired tax deferred.  You could run some basic numbers - how much do you think you'll return if you invest in these vs.  paying the $20k now and what you could find later.  Given the roof and maintenance issues, you may not want to rush into these without thorough due diligence just to save on taxes - capital items could potentially eat away any tax savings.

Ralph R. · Answer

@Drew Reynolds  Thanks Drew I wasn't done checking the 1031 out, but my CPA is so busy right now I didn't want to ask her about it.  the intermediary is a lawyer and the one who said it would not defer the depreciation recapture. but he's not a tax person so I was going to call my CPA when she gets cought up.  what I was thinking of doing was trying to find a property and making an offer that was contingent on the sale of the 1031 property.  that might help avoid the bad property thing.  the last 2 or 3 I have purchased the seller has not been in a hurry to close.  The one I want to sell should move pretty fast.

RR

Matt H. · Answer

I 100% always 1031. Line up the next one before you sell the first one. Always.

Natalie Kolodij · Answer

No no I would take it into consideration.

But in this situation if my option was pay tax on my sale- or buy into property that has terrible cash flow/numbers. I would pay the tax.

I wouldn't buy into a bad deal just to avoid tax.

Chris Martin · Answer

I always like to inquire when I see 'never'. So... some investments, like ITC 3468 projects can have not ideal numbers before tax and great numbers after tax. Are you recommending to not take tax credits into consideration? Just trying to clarify.

Would you ever not do a 1031 exchange?

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