When working with a professional qualified intermediary, the process of completing a 1031 property exchange is relatively simple. In truth, most exchangers do best by sitting back and letting the professionals handle the details. As an exchanger, however, it is your duty to pay attention to what is happening with the procedure: you want to understand what is happening and how it affects your profession and investments. To do that, it is critical that you understand the basic rules and procedures surrounding the 1031 tax exchange.
The first important rule to understand is that the properties in question may not be your main residential property. In order for a 1031 exchange to be an option, the properties you are relinquishing and purchasing must be for investment, business, or income purposes.
The second important rule about 1031 exchanges is that they can only be done in instances of like-kind properties. What does like-kind mean? In short, this requirement stipulates that one property may only be exchanged for another of roughly the same type. Farmland, for example, should only be exchanged for farmland - or a rental property should only be exchanged for a rental property. Fortunately, the guidelines for these categories are fairly broad, allowing for plenty of leeway - and there is no stipulation about the qualify of property (a swath of very poor farmland, for example, is still considered to be in the same category as a swath of rich farmland).
The third important rule about 1031 exchanges that you should understand is the need for a qualified intermediary to act as a third party in the exchange. In practice, the purpose of this intermediary is to hold the funds while the transactions are occurring: this ensures that no money is lost or misused in the transaction. The qualified intermediary, for example, will collect the proceeds from the sale of your relinquished property. When you purchase a replacement property, then, the qualified intermediary will release the funds to the seller. This ensures that the money is held in a safe place while it is being sheltered from a tax hit.
The fourth critical rule to understand about 1031 tax exchanges is the importance of time limits. The time requirements associated with 1031 tax exchanges are stringent: extensions are not issued. After your relinquished property is sold, you have a strict 45 days to identify a replacement property and 180 days to complete the transfer.
These four sets of rules represent some of the most important points of the 1031 property exchange process. Understanding these points is essential to your role as a successful exchanger: you must understand the process in order to fully benefit from it. |
