For taxpayers owning investment property or business owners with personal property considering a 1031 exchange, the first step is to visit your CPA to determine the tax consequences. Without knowing the tax before initiating the exchange, the taxpayer is assuming it makes sense to initiate the 1031 exchange. All too often taxpayers want to initiate an exchange without knowing the value or the reason to exchange other than to exchange for another property. That in itself is a good reason to exchange but for those taxpayers who want to justify the exchange expense, a 1031 exchange should start with a review of the realized gain on the sale.
1031 tax exchange
Why Use a 1031 Tax Exchange
The taxes due on the capital gains and claimed depreciation upon the sale of an investment property can be quite substantial, often times to the point where any possible profit on the sale can be eliminated. Enter the 1031 tax exchange. Title 26, Section 1031 of the Internal Revenue Code states that, “no gain or loss shall be recognized on the exchange of property held for productive use in a trade or business or for investment if such property is exchanged solely for property of like kind which is to be held either for productive use in a trade or business or for investment.” No gain or loss recognition ultimately means that no taxes are due upon the sale of the old property, or temporarily deferred which can be highly beneficial. The benefits of completing a 1031 tax exchange obviously lie within the tax benefit realm. Here are a couple of reasons to use a 1031 tax exchange.
1031 Tax Exchange
Most often associated with investment real estate, the 1031 tax exchange is an effective way to delay (but not forgive altogether) the payment of federal, state and local capital gains and recaptured depreciation tax for property that is held for the productive use in a trade or business or for investment upon sale. It’s important to understand the concept of the 1031 tax exchange and also certain rules that must be followed in order for the tax deferment to be allowed via IRS Regulations.
1031 Tax Exchange Benefits
The 1031 Tax Exchange is a section in the U.S. Internal Revenue Service Code which allows investors to postpone capital gains taxes during an exchange of like-kind properties for investment or business purposes. Thus, capital gains or taxes are not imposed on a property sold if the net equity plus debt retired is used to buy another property of equal or greater value. Tax payment is deferred until such time that the replacement property is sold without initiating another 1031 exchange.