There are many reasons why owners of investment properties – single family homes, condominiums, commercial office buildings, shopping centers, and so on – want to move their investment from one property to another. Perhaps you want to sell a property that has appreciate greatly and use those proceeds to buy a new property in the next undervalued, “up and coming” area. Or, like many investors in the Washington, DC area, you might benefit if the property was located in a jurisdiction with a more favorable tax environment. If you relocate, you might decide that you would like to own investment property that is closer to your new home. You may wish to restructure your investments for estate planning purposes.
When you sell an investment property, you may be taxed on the gain that you realize from the sale. A “like kind exchange” is a transaction where you trade one investment property for another property (a property that is similar or “like kind”) and defer the taxes on the gain. Like kind exchanges have long been recognized under the Tax Code under Section 1031. For this reason, like kind exchanges are sometimes referred to as 1031 exchanges.
The concept and policy behind a like kind exchange is fairly straightforward. In the simplest transaction, if you trade property A for property B, you have not put any money in your pocket; you have simply changed the nature of your investment. In an economic sense, you have not “recognized” the gain.
Like kind exchanges are almost never so simple as trading building A for building B. More frequently – in fact, almost always – the investor wants to sell property A, and use those proceeds to go buy property B from someone else. Even though this is not a one-for-one trade, the Tax Code allows these types of transactions to qualify as a like kind exchange provided that very strict rules are followed.
One rule is that the seller of the property must not receive actual or constructive possession of the proceeds from the sale. To put it a different way, once you put the money in your pocket from the sale, you have recognized gain from the sale and are subject to the capital gains tax. If you do not put the money in your pocket and use the money to acquire the new property, then you do not recognize the gain. Like kind exchanges often employ a “qualified intermediary” to hold the funds between the time of the sale and the time of the purchase of the replacement property. Because the qualified intermediary is holding the proceeds from the sale, the seller does not put the money in her pocket.
Other rules impose strict deadlines for identifying and acquiring the replacement property in order to qualify under 1031.
We assist real estate investors in the Washington, DC area with like kind exchanges. We have teamed up with an established qualified intermediary with almost 20 years’ experience in the industry and over one billion dollars in transactions to offer qualified intermediary services for real estate investors in Rockville, Potomac, and the Washington DC metro region.