The real estate market in Houston is heating up!!! Just one problem..... with the recent increase in capital gains tax to 20% in addition to the 3.8% Medicare Tax that was part of the Health Care Act, sellers will be taking home less money than they would have last year. As a result, our Houston CPA Firm is recommending more and more people turn to 1031 Exchanges to avoid the 23.8% in taxes they are currently faced with.
What is a 1031 exchange?
A 1031 exchange is a tax deferred exchange and a simple method for selling one real estate property and then purchasing another real estate property within a specific time frame. The entire transaction is treated as an exchange and not a sale. "Exchanging" the property allows you to defer taxes.
Why use a 1031 Exchange?
If you're a property owner, you should consider an exchange when you expect to acquire a replacement "like kind" (all real estate is "like kind" to all other real estate in the US) property after the sale of your property. Anything otherwise would necessitate the payment of a capital gain tax and the additional Affordable Health Care Tax.
Also, if you have held the property for several years then you have been depreciating the property thus reducing your basis in the property. When you sell the property, the IRS wants to tax you on the depreciated portion as an income tax, and that would be at your tax rate which could be as high as 39%.
You'll need a "Middle Man"
Any funds from the original sale of property, must not go to you or your agent. Instead, funds must be given to a qualified intermediary. The intermediary acts as the middle man in the transaction, holds the proceeds of the sale, and does any buying or selling necessary on behalf of the taxpayer. A qualified intermediary is generally an individual, or company that works exclusively with dealing with 1031 tax exchanges. CPA's cannot be an intermediary in a 1031 exchange but we can council and advise you!
From the close of your original property, you will have a maximum of 45 days to identify up to three potential properties that you wish to exchange for. After the 45-day period, the code extends to you an additional 135 days to complete the purchase of one or all three of those properties identified. The Facilitator or Intermediary will provide you with all the documentation and guidance to help make this process hassle free.
3 Other Rules for a 1031 Exchange:
- The total purchase price of the replacement "like kind" property must be equal to, or greater than the total net sales price of the relinquished, real estate, property in order to not pay any tax.
- All the equity received from the sale, of the sold real estate property, must be used to acquire the new, "like kind" property. Any cash taken out or left over will be taxed.
- The same person must be on the old title as on the new title.
If you are considering using this tax strategy to acquire a new property, please give us a call - one wrong move could disqualify you from being able to take advantage of a 1031 exchange!