Sell or 1031 Exchange, what options?

Question

Hello, helpful BP community. Here is my question re 1031 my duplex that is a 100% rental investment. I owned this prop since ’99, I am nearing retirement and don’t care for the hassles of property management and maintenance aspects. The local market is hot for duplex sellers, there is hardly any inventory. If I sell, there will be 300K cap gain and 80K deprec recapture. It will be a huge tax bite, for me anyway.

So I am thinking what are the options? e.g. 1031 into something that is low-touch, relatively safe and gives off a steady monthly income?

I have learned a little about TICs. What are the upsides and downsides? Are there better alternatives?

Kent

So I am thinking what are the options? e.g. 1031 into something that is low-touch, relatively safe and gives off a steady monthly income?

I have learned a little about TICs. What are the upsides and downsides? Are there better alternatives?

Kent

Kenny Tan · Answer

@

Dave Foster

Sage advise. 20 years ago I'd say buy more properties. Today, not so much. Plus, I am getting that gut feel the market top is near.

Kenny Tan · Answer

@

Leslie Pappas

Thanks for your pointer, I will check out your book.

Kenny Tan · Answer

@Robert C.

Thank you. I do think of keeping the property and hire a good maintenance rep. But houses don’t get better with age and it’s never a good time for major repairs, (roof, HVAC…).

@Joel Owens

I am going to research NNN properties. But on the surface, it looks like tenant issues and long term leases.

Linda Weygant · Answer

One great way to help with the tax hit is to owner carry and sell it as an installment sale.  It will keep your marginal rate down and you can structure the sale to coincide with other income in order to manage the taxes to your benefit.

Leslie Pappas · Answer

hi all- TICs and DSTs are wonderful vehicles for 1031 exchange reinvestment. You must be an accredited investor and the investment must be suitable for you.  Even if you're accredited, they still may not be suitable.

In the recession, all property declined in value across the board.  There was not poorer performance simply because a property was structured as a TIC or wholly owned by one individual.  Yes- in some cases various owners had difficulty reaching consensus.  That's one reason I prefer the DST structure, but both structures have their pros and cons.

This isn't a simple topic.  There's a lot that goes into it.  I only work with a select group of DST and TIC sponsors who have long experience, good track records and have the investors' benefit front of mind.

Joel Owens · Answer

Kenny whatever you do make sure you are talking to various informed people.

The DST's are not foolproof and have downsides as well. The TIC's many of those took a bath during the last downturn. Everyone owns a share and try to get them to all vote one way at a time with a property and see how that goes.

I wasn't involved in a TIC but have had investors call me where the property had an issue over time and all the TIC members could not come to a consensus of what to do with the property. Meanwhile it was deteriorating in value.

If you are nearing retirement most go for commercial NNN properties.

Expectation of return is key. Example you are not going to get high double digit returns and be completely passive at the same time. Other investors who have held single family, multifamily etc. ( more intensive assets) are also looking for more hands off investments. That is why supply and demand dictates a certain return.

Robert C. · Answer

@Kenny Tan, The only true zero maintenance option is to sell and take the tax hit. Since this concerns your retirement, I personally would not 1031 exchange into an investment vehicle that you do not fully control yourself. This is especially important if the funds from the equity or future cash-flow are vital to your retirement lifestyle (everyday expenses or emergency money).

I can only think of three other options I would consider with pros and cons:

1.) Keep it, and higher a good property management company to take care of the day to day annoyances. You still have your equity and positive cash flow. And if there's little or no mortgage, you can put some cash in the bank by refinancing without over-leveraging.

2.) 1031 into another cash-flowing property. You can put your equity into a nicer neighborhood with better tenants and less capital expenditures (if you aren't already in a nice neighborhood) and also reduce your involvement by hiring a property management company. The risk here is that you may be buying into the height of the market, so you may not be that much better off in terms of preserving your equity unless you get a good deal in a smart location.

3.) Sell the property and carry the note for the buyer. I'm less familiar with all the details to this, but if you structure this properly you can continue to defer some or all of the capital gains tax, and just collect interest payments from the buyer. The property then belongs to someone else, and they have to deal with all property management headaches. Most of the hassle is upfront, since you'll need to execute a note properly and involve an attorney and tax advisor. The other potential hassle is if the buyer defaults and you have to foreclose, that tends to be a complicated process. However, you may end up ahead equity-wise in that event by reclaiming the property.

Kenny Tan · Answer

@

Dan Schwartz

Thanks for the heads-up. The tax man always get his cut, maybe I can defer the pain.

Dave Foster · Answer

@Kenny Tan, in exchange for allowing you to defer paying tax on a 300K gain and an 80K depreciation recapture you do have to give up something.  And that something is a reset of your depreciation clock. However, if you purchase more real estate than you sold you can begin a new depreciation clock on the difference.  You just don't get to depreciate the old basis twice.

Your analysis should probably be a look at your potential future tax position.  You will find that either your anticipated tax situation will likely not require as much help from a depreciation write off, or that your exposure now is not so bad that you can absorb the 140K or so in tax from a sale foregoing the 1031.

If paying the tax now is too painful and you anticipate needing more depreciation write off in the future then 1031 and use the gain to purchase more property than you sold and take both the remaining 12 or so years on your current property basis and the additional depreciation you gain through purchasing up.

Leslie Pappas · Answer

Hi @Kenny Tan, if you're an accredited investor and you decide to 1031 exchange, you might consider reinvestment into DSTs. They are hands-off, institutional grade real estate investments. Professionals with decades of experience and very impressive track records do all the heavy lifting for you. You get potential cash flow, tax shelter and appreciation. Loans are non-recourse. This is the world of Delaware Statutory Trusts. I wrote a book on this that was released in January called Cashing In Tax Free. If this interests you, you can start to learn more at my website. Please let me know if I can help. Leslie