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1031 Exchange: A Real Estate Investor’s Best Friend

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It is very likely that you have heard before that real estate creates millionaires. Well-known billionaire, Andrew Carnegie, known for the expansion of the American steel industry, famously said that 90% of millionaires became wealthy through real estate. But is it really that easy?

Did you know that you can pay little to no tax on capital gains at the time of buying and selling real estate? Well, that is, if you meet the requirements of a 1031 exchange. I can bet you were never taught this in school! Let’s dive into it.

What is a 1031 Exchange?

A 1031 exchange (named after Section 1031 of the Internal Revenue Code) in basic terms is the swap of one investment property for another. It sounds easier than it really is, so let’s put it in technical terms. A 1031 exchange allows an investor to limit or avoid paying capital gains taxes when selling an investment property and buying a new one with equal or greater value at the time of the exchange.

The most common 1031 tax form used is the Like-Kind Exchange. This means the new property must be somewhat like the property being replaced. The new property must be alike in the same nature, character or class as stated by the IRS. When an exchange is complete, the parties will file Form 8824 to the IRS along with their federal income tax return.

This doesn’t mean that you can qualify for a 1031 exchange and delay paying your capital gains taxes as long as you want. There are restrictions.

Restrictions

So now you have all of these untaxable capital gains and you can go buy yourself a new sports car with that money, right? No. Taking control of any and all of the cash before the exchange is complete will absolutely disqualify you from the exchange itself. All capital gains from the property will immediately be taxable.

This is where a qualified intermediary comes in. A qualified intermediary is a person or company that agrees to facilitate the exchange and holds all of the funds involved until the exchange is fulfilled. This person or company cannot have any relationship to the parties involved.

This step in the process is only necessary though if going through a delayed 1031 exchange. However, this is the majority of exchanges. Unless you are able to find someone with the property you want and they want the property you have, which is very uncommon, it will most likely be a “delayed” exchange. There are two important timing rules to understand when going through a delayed exchange:

45-Day Rule

The IRS states that within 45 days of the sale of your property, you must designate your replacement property. This has to be put into writing and signed off by you, then given to the intermediary. You can designate three properties as long as you choose to close on one of them as the final property.

180-Day Rule

This is all about the end goal. Within 180 days of selling your property, you must close on the new one. The property you close on must have been one of the properties designated in that first 45 days of selling your property.

The Good, The Bad, and The Ugly

So maybe you’re ready to get rid of a property and invest in a new one. Great, now you understand what a 1031 Exchange is. Remember that this can be an amazing tool when looking to upgrade properties and increase your equity.

It is important to understand everything about this exchange. Know what you are getting into before you do. For example, you have to consider mortgage loans or debt on the new and old property, so you are not stuck with money you owe as your liabilities increase.

Also make sure that you are not doing this exchange alone, and that you have experienced parties involved (example: Real Estate Broker, Qualified Intermediary, Real Estate Attorney, Accountant). Calculate your financials beforehand and meet with an accountant to fully understand where your money will be coming in and going out.

Although it seems like a lot of steps, any real estate investor will tell you the reason they invest in real estate is the tax advantages that are available. So, don’t be scared off by the research and paperwork involved, and embrace the transition into that next phase of increasing your equity and net worth.

Whether you need more information regarding a 1031 exchange or you are a seasoned investor looking to complete a 1031 exchange, Contact Tannehill Law if you are seeking professional legal guidance to assistance you in your next transaction

 

Author: Sean Tannehill; Co-Author: Melissa Tannehill

What are the Pros and Cons of Listing Your Home for Sale by Owner?

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We live in a “Do-It-Yourself” culture. With the internet and its vast resources, people can teach themselves to do just about everything on their own now and save thousands of dollars while doing so. You can use the internet to self-publish your novel, completely redo your entire kitchen, or list your home for sale.

For Sale By Owner, is a growing phenomenon in real estate, and it is the top choice of many people looking to sell their home.

What Does “For Sale by Owner” Mean?

When someone lists a house as “For Sale by Owner,’ it simply means that the homeowner is listing the house without any assistance from a real estate agency. Instead, the home is being directly listed and sold by the owner of the home. This means that everything in the process that would previously go through an agency including but not limited to, inspections, negotiations, open houses, and showings, will instead be handled by the owner of the home.

Like most business strategies, there are both pros and cons to choosing to sell a home For Sale by Owner.

Pros

  1. Opportunity to Save on Costs– The number one reason many sellers choose to sell their homes themselves, rather than include a real estate agent in the transaction, is to save on costs and get more money out of the sale. In most real estate transactions, the real estate agent is paid for their work by collecting a percentage of the total sale. Without a real estate agent conducting the sale, the sellers will not need to pay a commission.
  2. More Control of the Sale and Negotiations– When an offer is accepted on a home, and the inspection is conducted, a new game of “back and forth” begins as the buyer and seller negotiate until they agree to a deal that both believe to be fair. In some cases, this can be settled in a matter of two emails in a couple of hours. However, in many cases, this back and forth can go on for weeks before both parties come to an agreement. When a real estate agent is involved, this correspondence will go through them before it reaches the seller. Sellers sometimes see the “middle-man” as an extra barrier to the negotiation process. Many people find a more direct approach to negotiations to be a benefit of selling a home without an agent.
  3. May Be More Appealing to Buyers– Just as the above points may appeal to sellers, they may also appeal to the buyers as they are often hoping to purchase, close on, and move into their new home as soon as possible. As a seller, your For Sale by Owner home may appear more attractive to a buyer who is also looking to cut out the extra person in the transaction, and speed up the process.

Cons

  1. May Not Appeal to All Buyers– While some buyers may see a For Sale By Owner home to be an easier process, others may want the guidance of a seller’s agent to help guide the transaction. If this is the case, some buyers may eliminate your home as an option before they even have time to view it. By using a real estate agent, your home will be listed on the Multiple Listing Services (MLS), allowing a vast majority of Buyers the ability to view your home.
  2. Ease of Showing Your Home to Attract more Buyers: When using an agent, the agent will schedule showing and do their best to attract potential buyers to view your home to encourage more traction that will result in an offer.
  3. Higher Risk of Contract Complications– When you use an agent, you will likely be going through the process a professional who has walked through the steps countless times before. Unless you deal with contracts and home negotiations every day, you may not have a clear idea about what specifics to look for, and what loopholes to avoid. Many times, without professional or legal help, you could agree to something you did not intend to.
  4. Could Cost More in Time and Money– While cutting a real estate agent out of the transaction may end up saving you the extra closing costs, it might not always end up saving you money in the end. Many times a real estate agent can advise you through the process, and help you to avoid extra or unnecessary costs. If you are not familiar with the process or the logistics behind it, you could end up spending more money than you save.

Five Steps to Take If you are Thinking About Listing Your Home “For Sale By Owner.”

  1. Research and Understand the Market– First and foremost, you must remember that you will be dealing with experts in the field, and to get the most out of the endeavor, it is essential to make yourself a sort of expert as well. Before you list your home, be sure to research both the market and the process. Be sure to cover all your bases to leave no room for error.
  2. Clean and Organize the Home– Most real estate agents have an eye for the details that need to be changed, fixed, or decorated in a home to appeal to the buyer. They know how to display the home and capture the listings in a way that will generate more interest. Without an agent, this responsibility will fall on you as the seller. Be sure to take the time to present your home in a way that captures the best aspects and appeals to your target.
  3. Look for Platforms to List and Market Your Home– One of the most important aspects of selling a home, with or without an agent, is marketing. Real estate agents have access and experience with all of the most effective marketing and selling platforms for homes. When selling a house as For Sale By Owner, it is important that you do your research and ensure that your house is listed on all of the necessary channels to get it seen.
  4. Consult with a Legal Real Estate Expert– As mentioned before, no matter how much you research the process, it is hard to compete with experts in the business. To avoid signing into a flawed contract, be sure to get an expert’s opinion on the matter.

If you are looking to sell a house For Sale By Owner, but you are looking for a legal eye to review any contracts or documents contact Tannehill Law for legal expertise to assist you in the process every step of the way.