|
The §1031 tax deferred treatment of capital gains is one of the best real estate investor vehicles for preserving and building real estate wealth: This provision of the Internal Revenue Code allows property owners to exchange their property for other like-kind property without recognition of capital gains. It makes possible to transfer the financial gain that is realized from the sale of a property into another property without federal capital gains tax at the time of the sale. Qualified Properties To meet the requirements of §1031, both Relinquished Property and Replacement Property must qualify. In other words, both the property you are selling and the property you are buying must be qualified property of like-kind. If not, your exchange will fail and be classified as a sale. This is so important it needs repeating: To qualify as a like-kind exchange, the property must be both (1) qualifying property and (2) like-kind property. For income tax purposes, real estate is divided into four classifications. Classification is made as of the date the transaction is made. The classifications are: Held for business use (§1231) Land held for investment (§1221) Held for personal use Held primarily for sale (dealer property) The first two classifications-held for business and held for investment-qualify for §1031 treatment. The second two-held for personal use and dealer property-do not. Some properties have more than one classification at the time of sale. For example, a farmer sells his farm including his personal residence. The sale or exchange is allocated between the real estate held for personal use (the personal residence) and the real estate held for use in a trade or business (the farm). Another example is the sale or exchange of a duplex where the seller lived in one unit and rented out the other unit. The sale would be allocated. Under §1031, both business and investment property qualify. And it does not require only business property for business property or investment property for investment property. You can mix the classifications. For example, you can exchange an apartment house (business property) for two unimproved lots (investment property). Or a commercial warehouse (business property) for a 60-acre tract of raw land. All could qualify. |
