1031 Exchanges the right thing to do?

Question

I was just notified by my CPA that a 1031 exchange might not be the  best way for me to take money from the sale of one property and buy another property. He said it could cost me more in leagal fees than it would save me in taxes. Does he know what he's talking about or should I find a new CPA?

Dave Foster · Answer

Account Closed, Subject 2 is a very interesting question!!!  In structure it acts very much like a land contract where you contractually accept the benefits and burdens of ownership but don't get title until the note is paid.

There is an argument to be made that a land contract or a subject 2 structured strong enough could cross the "risk of loss passing" bar and that the bundle of rights you have in controlling the property is enough to make it equivalent to having a deeded interest in the property.

We've done 1031 exchanges for land contracts occasionally.  Sub 2s are a little quirkier and even less common but it's a possibility.  I'd want you to get your CPA or legal advisor's Okey dokey because the benefits and burdens of ownership argument is specific to each individuals situation.

So the answer is - maybe!!

Account Closed · Answer

That is a good insight. and it raises a question I have:

Can a property bought using Subject To, (taking over existing financing) do a 1031 to another property?

I bought a $200,000 property taking over the existing financing. I gave the seller $20,000 of their equity paid out of my LLC and I took over their loan of $170,000 with my LLC making the payments. Escrow recorded Title in my LLC. I have the property rented out and the rental payments have been paying off the principal.

Now I want to buy a bigger property. I want to sell the property and use the money to buy a much bigger property using Subject To. I would use the funds to pay the seller his equity and I would take over his loan on the property.

Is this even workable?

Also, since I am self employed and over 59 1/2 is there any advantage to doing this in a Roth 401(k) or Roth SDIRA?

Rhonda Wilson · Answer

We just completed our third 1031 exchange. In the latest exchange we paid $950 for the intermediary fee. There was no need for a special lawyer as the process is pretty standard. If your capital gains tax is going to be more than a few thousand dollars, I highly recommend a 1031 exchange. The biggest downside of a 1031 is the limited time that you have to identify a replacement property. That 45 days is very short and you may find that you have to buy something that might not have been your first choice.

Account Closed · Answer

@Dave Foster Thanks for the insight. I did think it was a bit of an "iffy" thing, so thanks for the assistance. Also, in a Sub To, one does actually get the title deeded immediately, at closing, and it is recorded right away. This is years before the loan is finally paid off. Ownership has transferred and title is recorded immediately. It is a bit different than a land Contract that way. The seller has no way to foreclose if I stop making payments. There is no mortgage and no note. Your comment about "risk of loss" was a new one to me but it makes sense.

Dave Foster · Answer

@Paul Sweetman, I guess it depends on how much tax you're trying to save.  But my guess is that his ignorance is showing.  To perform a 1031 exchange would cost your 700 - 1000,  For your accountant to fill out the form 8824 reporting the 1031 would be another $125 - $500.  There are no true "legal fees" so to speak.

So total cost including facilitation and reporting of a 1031 exchange - around $1,000.  That's roughly equivalent to the tax on  $7,000 ish capital gain.

It doesn't take too much gain to make a 1031 cost effective.

Tom Nguyen · Answer

It always depend on the deal. How much is your Capital Gain and how long you own it ? The longer you own it, the more tax you pay because you depreciated every year.

Sam Shueh · Answer

I suggest you go back to him asking about legal fee dollar numbers.

You need also to specify the capital gain number. Trump this year has reduced the long term capital tax gain rate to a great deal.

1031 Exchanges the right thing to do?

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