when does 1031 exchange make sense?

Question

Couple of question i have regarding 1031 exchange? Hope someone expert in Real Estate can guide me

1)Who act like qualified intermediary? is it a real estate agent or escrow company?

2)What is the cost for qualified intermediary?

3)When should you consider 1031 exchange?

I have two real estate property as rental, 3rd one is my primary all based in San Diego. The first rental is a condo which i have been renting it out from year 2013. I have equity on it and yearly i get around $10000 as rental income but the property is 1989 build and i am assuming that since its very old property the equity gain would be limited. So to save 15% capital gain minus qualified intermediary cost does it make sense to do 1031 exchange in selling the old one and do 1031 exchange?

How should i think about it?

Regards,

namal

Bill B. · Answer

Hire a company/person that is solely a QI like @Dave Foster they do it every day and will keep you legal and on track.

I did one a few months ago and I’m pretty sure it was under $1,000, $7-800? YMMV.

If you’re selling and you’re going to buy another rental no matter what, if you probably do a 1031 unless you have almost no capital gain or depreciation capture. If you want to sell and be done with rentals you probably don’t do a 1031 no matter what.

Your equity doesn’t matter in the taxes or decision. You have your selling price, minus all selling costs, minus your purchase price, that’s your taxable gain. (I’m ignoring any extra cap-x because you said it was a condo, but you’d also add any major cap-x to cost basis). You’re also going to have a 25% depreciation recapture on 3.6% (got) per year on the building value, 10 years in your case…

so random guessing. Role-playing.
.
you paid $300k 10 years ago, it’s worth $660k, (so when you sell you net $600k to make math easy.)and your cpa determined that you owned zero land, so it’s all depreciatable.

you owe 15% on the $300k gain plus 25% tax on $109k depreciation recapture, so you owe $70k in federal taxes, then California reaches out for another $30k? So if you do an exchange you are saving $100k in taxes today. “Hopefully” you die before ever selling without exchanging and you never owe those taxes.

Dennis Bragg · Answer

Hey there, everyone.. I realize this thread is over a year old, but I actually stumbled upon it recently while digging into some 1031 exchange research on Google. According to a piece I saw in The Economist, it’s surprising how certain markets keep evolving from year to year.

@Namal Burman, your post caught my eye because I had a former client-now a good friend-who found herself in a similar situation. She had a rental in San Diego that started to feel like a money pit. After a few too many midnight leak repairs, she wanted to offload it but didn’t want a big tax hit. She ended up using a 1031 to exchange into a smaller multifam near Austin that better aligned with her long-term goals. Thats kind of the beauty of thes exchanges.. you get to reposition your capital, ideally in a property that ticks more of the boxes you need.

Now, thinking about older buildings.. some folks underestimate how well older properties can hold up if they’re in a good location. But if you’re questioning whether your condo will keep appreciating the way you want, and you’re set on staying in real estate investing, a 1031 could definitely be worth exploring. Maybe you pivot into a multi-family in Phoenix or a single-family in Omaha.. from what I’ve heard they can still provide stable cash flow. Keep in mind, though, if you just sell outright, you could be looking at capital gains and depreciation recapture, so it’s worth crunching the numbers with a proper tax professional (I’m not one, by the way).

What do you think the rest of the community has seen happen to property values since last year, and do you believe it changes the 1031 conversation?

Dave Foster · Answer

Thanks for that shout out @Bill Brandt.  @Namal Burman, Here some answers/thoughts for you.

1. The QI has to be an unrelated 3rd party to the transaction.  Your realtor/accountant/title company/attorney cannot be the QI.  It must be a separate company whose only role is the 1031.

2. For a regular 1031 you will find a range of prices from 900 ish to 1500 ish for a complete exchange.  Higher generally with an attorney who does a few each year.  Lower for a company that focuses only on that and has economies of scale.

3. In general, any time you have profit or depreciation recapture that would cause a tax.  And you are continuing to invest in real estate a 1031 is a good option to explore.  Every day you keep the tax deferred you get to keep the money for your use.

I'll reach out via pm with some more info on the general process.

Mike Fingleton · Answer

@Dennis Bragg I especially agree with you that "thinking about older buildings.. some folks underestimate how well older properties can hold up". We just finished one flip with a $120K spread that literally no one else wanted to touch due to the age...!

when does 1031 exchange make sense?

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