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By AZ Advisory Team, January 2, 2010 4:15 pm

The 1031 Exchange Rule

A property transaction can only qualify for a deferred tax exchange if it follows the 1031 exchange rule laid down in the US tax code and the treasury regulations.

The foundation of 1031 exchange rule by the IRS is that the properties involved in the transaction must be “Like Kind” and both properties must be held for a productive purpose in business or trade, as an investment.

The 1031 exchange rule also lays down a guideline for the proceeds of the sale. The proceeds from the sale must go through the hands of a “qualified intermediary” (QI) and not through your hands or the hands of one of your agents or else all the proceeds will become taxable. The entire cash or monetary proceeds from the original sale have to be reinvested towards acquiring the new real estate property. Any cash proceeds retained from the sale are taxable.

The second fundamental rule is that the 1031 exchange requires that the replacement property must be subject to an equal or greater level of debt than the property sold or as a result the buyer will be forced to pay the tax on the amount of decrease. If not he/she will have to put in additional cash to offset the low debt amount on the newly acquired property.

Alex Zylberglait provides commercial real estate investment advisory as well as research, estate planning, asset allocation, valuation, financing, special assets services, transaction advisory and commercial property acquisition and disposition services.

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By AZ Advisory Team, December 31, 2009 12:05 pm

Why 1031 Exchange?

Any real estate property owner or investor of real estate, should consider an exchange when he/she expects to acquire a replacement “like kind” property subsequent to the sale of his existing investment property. Anything otherwise would necessitate the payment of a capital gain tax, which can exceed 20-30%, depending on the federal and state tax rates of your given state. To make it easy to understand, when purchasing a replacement property (without the benefit of a 1031 exchange) your buying power is reduced to the point, that it only represents 70-80% of what it did previously (before the exchange and payment of taxes). Below is a look at the basic concept, which can apply to all 1031 exchanges. From the sale of a relinquished real estate property, we should understand this concept so that we can completely defer the realized capital gain taxes.

The two major rules to follow are:

• The total purchase price of the replacement “like kind” property must be equal to, or greater than the total net sales price of the relinquished, real estate, property.

• All the equity received from the sale, of the relinquished real estate property, must be used to acquire the replacement, “like kind” property.

The extent that either of these rules (above) are violated will determine the tax liability accrued to the person executing the Exchange. In any case which the replacement property purchase price is less, there will be a tax responsibility incurred. To the extent that not all equity is moved from the relinquished to the replacement property, there will be tax. This is not to say that the (1031) exchange will not qualify for these reasons. Keep in mind, partial exchanges do in fact, qualify for a partial tax-deferral treatment. This simply means that the amount, of the difference (if any), will be taxed as a boot or “non-like-kind” real estate property.

Alex Zylberglait provides commercial real estate investment advisory as well as research, estate planning, asset allocation, valuation, financing, special assets services, transaction advisory and commercial property acquisition and disposition services.

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By AZ Advisory Team, December 30, 2009 11:06 am

Commercial Real Estate Investment Advisory: 1031 Exchange

Due to the fact that exchanging a property represents an IRS-recognized approach to the deferral of capital gain taxes, it is very important for you to understand the components involved and the actual intent underlying such a tax deferred transaction. It is within the Section 1031 of the Internal Revenue Code that we can find the appropriate tax code necessary for a successful exchange. We would like to point out that it is within the Like-Kind Exchange Regulations, issued by the US Department of the Treasury, that we find the specific interpretation of the IRS and the generally accepted standards of practice, rules and compliance for completing a successful qualifying transaction. We will be identifying these IRS rules, guidelines and requirements of a 1031. It is very important to note that the regulations are not just simply the law, but a reflection of the interpretation of the (Section 1031) by the IRS.

Click illustration on the left to full view.

Alex Zylberglait provides commercial real estate investment advisory as well as research, estate planning, asset allocation, valuation, financing, special assets services, transaction advisory and commercial property acquisition and disposition services.

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By Alex Zylberglait, October 30, 2009 8:25 am

We have been talking about Cost Segregation for quite sometime now in my print and e-newsletters – the Real Estate Investment Digest, as well as in one of  my past conference calls.

For those of you who missed it, Cost Segregation is a strategic tax savings’ tool that allows companies and individuals who have constructed, purchased, expanded, or remodeled real estate to increase their cash flow by accelerating depreciation deductions and deferring their federal and state income taxes.

The goal of a Cost Segregation study is to identify, segregate, and reclassify project-related costs that are currently classified as real property to shorter depreciable tax lives for federal and state income tax purposes.  Recent IRS rulings and procedures have allowed taxpayers to change accounting methods to take advantage of these previously understated depreciation expenses–back to 1987.  This is done without amending tax returns.

Cost Segregation started in the 1960’s and has been called component depreciation studies, investment tax credit studies and various other names.  No matter what name you use–Cost Segregation can save you tax dollars and increase your cash flow.  There are over 300 court cases and I.R.S. rulings supporting the benefits of Cost Segregation.  The following is an example.

Hospital Corporation of America v Comm. 109 TC 21 (1997) ruled that certain assets associated with a specific piece of equipment not linked to the normal operation and maintenance of the building qualify for five-year depreciable tax lives instead of 39-year depreciable tax lives.

Essentially, the tax courts and IRS have agreed that the taxpayer can use a Cost Segregation study to segregate the cost of his assets.

Standby as I elaborate on what Cost Segregation can does.  At the end of this series, I would recommend companies specializing in this field.

Alex Zylberglait provides commercial real estate investment advisory as well as research, estate planning, asset allocation, valuation, financing, special assets services, transaction advisory and commercial property acquisition and disposition services.