Another Partial 1031 exchange question

8 Replies

I cannot find the answer to my question. Hoping someone here will help me figure out tax consequences of this scenario: 

Purchase price 150K

Improvements 118K

Depreciation 77K

Sale Price 450K  

    So my gain is 450 - (268 -77) = 259, right? 

I want to buy a 205K replacement property.  Will that allow me to defer ANY of my taxes? 

I am not an expert in this by any means but if your sale price is $450k and you want to buy a property at that is $205k, the amount of $245k will be taxed.  You would not factor depreciation into the equation at all.  The purpose of a 1031 is so you are not taxed on any gains on a property so long as you replace it with a property(ies) of the same value or more.  

Even if you had a loan of $150k on the home and it sold for $450k, your replacement property doesn't only have to be $300k (gains after loan is paid) to defer taxes, it would still need to be $450k more. 

Again, that's just my understanding of a 1031. 

@Terri Donovan , Both @Frank Maratta and @Ash Leigh just about have it nailed.  In order to defer all tax you do need to purchase at least as much as you sell.  The IRS doesn't care how much your gain is if you're doing a 1031.  They simply say that any amount you purchase less than you sell or any amount of cash you take out is first going to be profit.

But here's where your depreciation matters.  And you are correct - your adjusted cost basis is your purchase price + capital improvements - depreciation.  And your gain is the difference between the adjusted cost basis and your net sale.  So you'r gain would be $259K.  

If you purchase at least $450K you defer all tax.  If you purchase $400K you pay tax on the $50K difference but shelter the remaining $209 in the 1031.  If you purchase $205K as you propose you are buying $245K less than what you sold.  So  you would pay tax on the $245K   In that instance you would only shelter the remaining $14K.

With an average exchange fee you'd probably still be saving a few hundred bucks.  But may not be worth your while.  One answer might be to purchase a second property to get closer to that $450K mark.  You can allocate your cash proceeds in any way you want towards your purchases.  So there may be some strategic possibility thinking available there.

@Dave Foster

Thank you. So the depreciation wouldn't transfer to the new property?  Kind of hoping I might just be paying cap gains and not the recaptured depreciation tax. 

And, if I only end up getting the 205K property, is that amount my new basis? 

@Dave Foster  

Another question: how does adding a credit for prepaids to the purchase price affect the net gain? I know they are not allowable as a stand alone expense.  When structured this way is that credit pulled out on the final 1031 statement as an unallowable expense or not? 

@Terri Donovan  Yep Depreciation does go forward.  Your new basis is the old basis carried forward plus any additions or subtractions.  Since you're buying down but still sheltering some of your old gain the adjusted cost basis of the old property is what would carry forward (191 ish).  It wouldn't be the purchase price.  

t's going to depend on the prepaid and the accountant.  The most appropriate answer is that yes your accountant would remove that when they file the 8824 reporting your exchange.  The bad news is you have to account for it and maybe there's some boot.  The good news is that it becomes a current expense for that year.  And I have seen some accountants who simply count it if it's on the settlement statement.  So I spose you could always arm wrestle them for it :)

@Dave Foster   Thank you so much!  I'm dumbfounded that a difference in thousands of dollars of tax liability is dependent on the interpretation of different accountants. So should I just call around until I find an accountant who uses whatever strategy is the most tax advantageous to me then? Ha.  That's messed up. :) 

@Terri Donovan , there's many that do!  Welcome to the world of accounting where "figures lie and liars figure" :) . Everyone's got an opinion but the one that counts is the IRS's :)