Typically most investors that I know that perform a 1031 exchange have already identified the subject property that they want to buy before they put their property on the market. If not you run the risk of keep having to extend the closing of your exchange property while you search for a new property. In a hot market, it's becoming harder and harder to find deals. I've performed a 1031 exhange once before, and in that situation, I had already identified the other property.
@Nicholas Jestus - that is the tough part about a 1031. I did one back in 2016, and it was tough then to find the replacement property. What I ended up doing was picking up 3 properties to meet the criteria for the one I sold.
Also to help make sure I meet the timeline, I started networking and looking for deals once I started prepping my properties for sale. Then once I was under contact and due diligence ended I started making hard offers.
At that point I ended up going under contract on the replacement properties before I closed on the properties I was selling. I just made sure my DD period ended after my closing date.
Now fast forward to today, and I have two properties under contract to be sold and haven't found anything I like as replacement properties. So I am just going to cash out and pay the capital gains tax.
Yes, I would suggest you try to identify the replacement property prior to the sale of the current property - though easier said that done many times. Its a bit of a juggle with timing but you can certainly toggle some time during an option and/or due diligence period. I have always tried to make the seller of the replacement property aware as early as possible that the purchase is part of a 1031 exchange and gauge his/her reasonableness at the outset.
@Nicholas Jestus , There are several ways to mitigate that risk - none of them perfect.
1. Find your replacement property and get it under contract then sell your old property. Statutorially only the closing of the sale must happen before the closing of the sale. You can go into contract prior. Off course then you've got to make sure the old property sells.
2. Sell your old property with a contract contingent upon you finding a suitable replacement. In a sellers market it is easier for you to dictate terms of your sale.
3. Contract for the new property contingent upon you selling your old property - hard to do in a sellers market but not impossible. All depends on how you approach the seller.
4. Broaden your criteria and search. Honestly, I don't think I've ever spent more than 1 month or 2 finding a property to buy in my life. Well that's 45 daysish. What I typically see is that the 45 days is more of a psychological barrier than a reality. that's not always true. But I guess if I was trying to buy into a sector that was that competitive I'd be thinking more about maybe not buying and waiting for things to come back to reality. Or have fallbacks as @Nicholas Jestus suggested.
5. Start to think about real estate as a commodity. what is available today will be available next weeks within limits - it will just be different addresses. So if you can't find anything today you probably won't find it next week. If it's there today there will be some next week. Exceptions to this are very specialized sectors or very small markets.
There is no penalty for starting and not completing a 1031 other than the loss of a fee. So I would get focused looking. Try to use a contingent sale and maybe get under contract for the purchase before the sale. Then if it's looking hopeful execute the sale and consider the 750ish exchange fee as the cost to buy 45 more days of searching.
@Andrew Kerr , forgot to tag you in the above post. But wanted you to have the last food for thought as well. It may be worth your while to not simply pay the tax if you haven't found a replacement by close of your sale. Instead start the exchange and get 45 more days to see if you can pull a rabbit out of your hat. No penalty just the exchange fee (actually part of an exchange fee since it's a deductible cost of sale) and maybe worth it if the profit justifies it.
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