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Learn About 1031 Tax Free Exchanges

Know the Rules for a 1031 Tax Free Exchanges

1031 tax free exchanges are a swap of one real estate investment property for another that allows capital gains taxes to be deferred. The term—1031 Exchange –gets its name from Section 1031 of the Internal Revenue Code (IRC).

IRC Section 1031 isn’t exactly straightforward. It has many moving parts that real estate investors must understand before attempting to use it. An exchange can only be made with like-kind properties and Internal Revenue Service (IRS) rules limit its use with vacation properties. There are also tax implications and time frames that may be problematic.

Considering 1031 Tax Free Exchanges

Here is what you should know:

• A 1031 exchange is a tax break. You use it when you sell a property held for business or investment purposes and swap it for a new one that you purchase for the same purpose. This allows you to defer capital gains tax on the sale.
• Proceeds from the sale must be held in escrow by a third party. They must be used to buy the new property; you cannot receive them.
• The properties being exchanged must be considered like-kind in the eyes of the IRS for capital gains taxes to be deferred.
• If used correctly, there is no limit on how often you can do 1031 exchanges.
• Both properties must be located in the United States to qualify for a 1031 exchange.

A 1031 exchange can be used by savvy real estate investors as a tax-deferred strategy to build wealth. However, the many complex moving parts not only require understanding the rules, but also enlisting professional help—even for seasoned investors.