1031 Exchange Process

1. Prepare

We believe proper planning is the key to a successful 1031 Exchange. Seek advice from your financial and tax advisors to determine if it’s appropriate for your overall financial goals. Understand your numbers and dates (as discussed herein). At a minimum, know your: Adjusted Basis, Mortgage balance(s), Estimated sale price, anticipated date of sale

2. Choose a Qualified Intermediary 

A Qualified Intermediary (also known as an “Exchange Accommodator” or “QI”) is a vital part of orchestrating a 1031 Exchange and is required by the IRS. Selecting a reputable and experienced QI is extremely important. Similar to an escrow agent, a QI will hold your money from the property you sell, and deliver it to the title company for the Replacement Property you purchase. For this reason, selecting a reputable and experienced QI is extremely important.

3. Sell Your Property

It is important to include 1031 cooperation language in the sales contract for the property you plan to sell, which notifies the buyer of your intent to use the proceeds as part of an exchange. Your real estate attorney can provide this clause for you. Whatever you do, DO NOT touch the cash from the sale! If you receive a check or money is deposited into a non QI account, it’s taxable! Get your QI involved early on in the process.

4. Identify Replacement Properties

It’s difficult to find Replacement Properties within the 45-Day Identification Period, but the IRS allows you to identify more than one possible property according to one of the following rules:

Three-Property Rule – Identify up to 3 potential Replacement Properties.

200% Rule – Identify more than 3 potential Replacement Properties as long as their combined value does not exceed 200% of the net sale price of the Relinquished Property.

95% Rule – Identify any number of properties with no reference to sale price of the Relinquished Property, provided you actually acquire and close on 95% of the value identified. (Please keep in mind that we rarely see this rule used in practice.)

5. Purchase Replacement Property or Properties

Include 1031 cooperation language in the purchase contract for the Replacement Property or Delaware Statutory Trust(DST) in order to establish your intent to use it as part of an exchange, and secure the seller’s agreement to work with your Qualified Intermediary at closing. Your real estate attorney can provide this clause.

Make sure to carefully review the pro forma closing statement from the title company with your tax advisor and Qualified Intermediary prior to closing. The IRS has intricate rules, and you don’t want to be surprised by unwanted Boot and taxes after jumping through hoops to defer them.

6. Have your CPA Report the Exchange

The final step is to ensure that your tax advisor properly completes IRS form 8824 (“Like-Kind Exchanges”), and includes it as part of your tax return, in the year in which you sold your Relinquished Property