Paying yourself back at closing for rehab costs during 1031

[Christina Potosnak]

I hope someone can answer this for me in a way I understand it. We have a single family rental home we are selling in a 1031 exchange. Prior to listing we renovated the home. I asked our 1031 company how we should handle all the renovation costs we incurred...should we add it to the basis and not claim it as an expense? They gave me another option, which I ran past my CPA. They said we could write ourselves a promissory note for the cost of the rehab and get paid back at closing. They said the only thing about doing this is that we would have to add that as extra debt replacement on the new property. The problem I am having is that both the intermediary and the CPA agree this can be done, but no one is explaining how.

My questions with how....How does that debt move to the new property? We are already getting a bigger mortgage on the next rental property. Would that bigger mortgage make up the extra debt?

It seems to me, we would write the note as if we were hiring ourselves as contractors and the contractors agreed to get paid at closing. So the note would be in effect during reno and paid off completely at closing.

Any insight would be greatly appreciated.