Perhaps you already heard about the 1031 tax-deferred exchange, which is related to real estate. On the contrary, a lot of people are not familiar with this one. What is this all about? What are the pros and cons of it? This article should shed more light about this real estate term. Commercial properties can sell well in an in-demand real estate market. However, you may have to expect to pay expensive capital gains tax. Fortunately, there is this trick that is also completely legal that is meant to defer paying expensive taxes. This is referred to as the 1031 exchange, which is stipulated to the Internal Revenue Service’s Section 1031.

Definition

Also known as a Starker or a Like-kind exchange, is a legal and (not-so) common real estate strategy that an investor takes advantage of to postpone the payment of capital gains taxes upon sale. This is as long as there is a purchase of another property which used the profit gained from the sale of the other property. This real estate trick can greatly benefit investors in terms of lessening the expense of paying expensive tax. A 1031 exchange involves several processes. First, you are going to sell a real estate property and then endorse the capital gains to an intermediary. Next, you have to determine a like-kind property for “swapping” within 45 days. You and the property seller would have to undergo negotiations and agree on the final selling price. Once the sale is closed, the intermediary personnel should transfer the capital gains tax amount to the property title owner or holder. You also have to complete an IRS form following this transaction. It is also important to note that only personal and real property can be swapped for like-kind estates. Likewise, the 1031 exchange is only applicable for commercial and not for personal property.

When is the right time to go for a 1031 exchange?

If you choose to sell a property even if you did not purchase it under your name, you are still obligated to pay up for capital gains tax. It can be more of a burden than a gain on your part, especially if you have made some bad real estate investments. But if you are planning to sell a property that can be worth more than its original purchase price, then it is a good idea to use the 1031 exchange strategy. For best results, you should have a property to swap to another of the same value. This process will help you delay paying expensive capital gains tax. Tax deferment will also enable you to have extra money you can use for future investment. At the same time, it can provide you the additional purchasing power to acquire properties and other investments with higher profit. It is also what experts say a great way to build your wealth. Investors will benefit a lot from their improved cash flow and net worth. In real estate, it is important to know how it works and how it can benefit you in the long run. This includes knowing more about the 1031 exchange so you can make the most out of your real estate investment.