Taxed on cash out refi Money after a selling

13 Replies

Hello all, I know that asking tax questions will most likely lead to a “talk to a CPA” or “it depends” answer. But here we go anyway!...... If I do a cash out refi on a non-owner OC investment property that I own in Feb 2018, then sell that property in July 2018, do a 1031 exchange, then roll those proceeds over to the new property being purchased, in 2019 will I have to pay taxes on that cash I pulled out from the cash out refi? Thank you!

That has CPA written all over it.

@Gulliver R.

One thing at a time, do not throw everything on the plate.

Financing and capital gains are not related. You buy some land for $100k and eventually sell for $150k - you have $50k capital gain. It is the exact same gain whether you paid $100k cash, financed $50k or financed $100k.

Accordingly, cash-out refi is not taxable when done. It also does not change future capital gain. Yes, you can think of it as "paying for the refi cash when the property is sold" - which is not technically correct, but is economically correct.

If you do a 1031 - capital gain is postponed, including the tax on the refi portion.

You cannot sell and then 1031. 1031 is done instead of sale and must be set up before you sell. There's no proceeds to roll over. You never touch the money during an exchange. If you touched the money - you lost the game.

......and if you did a cash out prior to the 1031 it'd either make a 1031 pointless or get you an audit you could get taxed because it will look like a stepped transaction.

But....... you could do a cash out after the 1031 and you reduce the risk of audit/stepped transaction.

let me rephrase:

If I do a cash out refi on a non-owner OC investment property in Feb 2018, then sell /1031 that property in July 2018, then roll those proceeds over to the new property being purchased.

I know I’m deferring the capital gains tax on the sale of the property to a future date via 1031. 

My question is in 2019 will I have to pay taxes on that cash I pulled out from the cash out refi? 

Thank you!

@Gulliver R. The more time you have between the cash out refinance and 1031 exchange, the better. The IRS may view the refinance as you trying to cheat the system. If they do view your refinance as such, you will be responsible for tax and/or depreciation recapture on that amount.

As others have mentioned above, some taxpayers sell their property, do a 1031 into another property, wait a few months, and then refinance.

With that being said, if you take funds from somewhere else to place a down payment on your replacement and then at closing take that amount of cash from the sale, it can offset the amount you forked over for the down payment.

Already answered your question, @Gulliver R.    The answer is yes, although this is the wrong way to look at it.

It may be hard to 1031 a property after holding it for only 5 months. Even more so if you intend to sell the second one shortly after.

And if you sell it in July 2018, you will pay in 2018. There is no rolling over.

My understanding is what @Michael Plaks said.  Any financing you may do will have no effect on the tax owed to Uncle Sam.

Originally posted by @Eric James :

My understanding is what @Michael Plaks said.  Any financing you may do will have no effect on the tax owed to Uncle Sam.

 Taxes generally aren't owed on a cash out refi because it's a new loan and since it must be paid back it's not counted as income. 

However, this changes when you do a 1031. There's really no point in doing a cash out refi PRIOR to a 1031 as it complicates things and introduces more risk. The point of a 1031 is to deffer taxes (and depreciation recapture) by buying another property. You can do a cash out refi AFTER the 1031 and reduce the audit risk/upsetting the IRS.

In theory if you did it before you risk the chance of being taxed on the cash out refi much the same as you would had you not done a 1031 or not used all your funds in the 1031 (the boot).

Lastly, (experts feel free to correct me) but you can't do a 1031 on a flip. Intent will play a large role in this and there are no hard deadlines rather general guidelines...

No, it's borrowed money. You are not taxed on money that you borrow. It's not income.

@Gulliver R. why not just simplify the process? Sell the property and do a 1031. Don't do a cash out refi on the first property. Do it on the 2nd property later.

Gulliver R, Anthony  Dooley, has an excellent idea that will make your life easier in the long run.

@Gulliver R. , You will never be taxed on money you take out as a refinance.  That is not a taxable event.

If you do a refi and then later sell the property as you suggest without a 1031 you will not pay tax on the refi.  You will pay tax on the gain which is the net sales price minus your adjusted cost basis which is purchase price minus depreciation plus improvements.  You will pay that tax.  The refi is not relevant.  

If you sell and do a 1031 then it is possible that the IRS if they audited your return and subsequently your exchange would determine that your refi was not an accessing debt against equity (a non-taxable event).  But rather it was an attempt to free up profit ahead of a 1031 sale.  in that event they would call the refi a taking of profit and not a refi and then yes it would be taxable.

If you do a refi and then do not sell or wait and sell after a year or so and 1031 then no you will not pay tax on the refi proceeds.

So the real question is why refi now?  If it's to access profit so you don't have to put as much cash into a 1031 purchase then guess what?  The IRS ain't stupid (all the time).  They'll sense that.  In that event do what @Lauren Speidel is suggesting and finish up the 1031 and then refi after the fact.

@Dave Foster

So the reason why I ask is because this is actually what I've already done/am doing. And I just want to make sure I don't get taxed on the refi cash. I should have described all this in the beginning. Here is the timeline...

-in Fall 2014 I purchased a property, fixed it up, added value to it, then rented it out to tenants

-in March 2017 I did a cash out refi on it and pull out a good chunk of money from that (but I did not spend a cent of it.. I just kept it in my savings account.)

-in October 2017 I sold that same property and now those proceeds are in a 1031 exchange facilitator holding account

-fast forward to present day: now I'm about to close on another property and I intend on using 100% of the cash out refi money for the down payment, plus 100% the proceeds from the sale of the previous property via 1031 exchange as well for the down payment of the new property, and additional money from my checking account will pay for closing costs and some of the down payment.

So now that you know the history, my question again is will I get taxed on that money from the cash out refi?

And thanks everybody for chiming in!

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