Generally, if you plan to make a real estate sale, you must deal with paying taxes. When the transaction involves investment property, you can be taxed on any profits (capital gains) that you’ve made on the sale. However, if you reinvest the money in a similar property within a certain time period, you can delay paying taxes on the property. This property swap method is known as a 1031 Exchange. Here’s some information on how to execute a tax-free New York real estate exchange.
1. Ensure the replacement property meets the 1031 requirements: There are rules regarding the replacement property that must be met, including the following:
- The replacement property (in addition to the property being sold) must be for investment or business purposes only.
- Compared to the property being sold, the replacement property must be similar or “like-kind”, which the IRS defines as “property of the same nature, character, or class.” The rules refer to the exchange of commercial investment property for residential property (and vice-versa) to be considered “like-kind.” An exchange involving a U.S. property for a foreign property, however, is not considered “like-kind.”
- The replacement property should be of equal or greater value to the one being sold.
- If there are mortgages, the amount on the replacement property must be the same or greater than the mortgage on the property being sold. If it’s less, the difference in value is treated as “boot” and it’s taxable.
- The replacement property must be identified within 45 days.
2. Understand how the exchanges are structured: The exchange can be performed in a few different ways:
- Simultaneous exchange: make a disposition of the relinquished property and acquire the replacement property at the same time
- Deferred exchange: dispose of one property and subsequently exchange for one or more other like-kind properties within the required time frame
- Reverse exchange: acquire the replacement property where an intermediary acts as an exchange titleholder for no more than 180 days. During this time frame, you must dispose of the relinquished property in order to complete the transaction.
3. Use a qualified intermediary: To successfully execute the reverse exchange, an intermediary’s involvement will ensure that that you’re in compliance:
- Their role is to be your agent when you sell the original property and hold the proceeds.
- Then you will inform them when you identify potential replacement properties.
- Next, the intermediary will use the funds to acquire the replacement and complete the exchange within the time frame.
- After the contract terms are agreed upon, the intermediary should receive copies.
4. Report the exchange: After the exchange is complete, you must send all copies of the sales and purchase documents so that the IRS will be notified. Otherwise, you would be subject to taxation and this would defeat the purpose of all of this effort!
Talk to an New York Real Estate Attorney about a Tax-Free Exchange
Executing a tax-free real estate exchange requires a lot of knowledge about the intricate steps to perform. You will want to be sure to get information from an experienced New York Real Estate lawyer to ensure that the process runs smoothly. The attorneys of MOWK Law are well-versed in real estate transactions and are ready to help. Contact us today for more information.