1031 Exchange from residential to commercial/residential

[Camy Kwok]

I have lots of questions that hopefully I can get some guidance on!

My mother has a rental property she has held for about 15 years in Washington state and has rented it out for the first 12 of those years. Because the condition of the building has deteriorated requiring substantial renovation she decided to stop renting it out after the last tenant moved 2-3 years ago. We have developers interested in buying the property for about 6 million. With that money we would like to do a 1031 exchange to continue growing her portfolio. Should she do that under a LLC or a trust if she intends to pass those properties to my sister and I should something happen to her? If we have multiple properties, do the properties need to be held under separate LLCs or can they be under 1 LLC? Can she hold properties in both Nevada and Washington state?

My sister and I have a business that we are looking to expand into another location. Could my mother exchange for a commercial property and we pay rent to her? Can we rent a residential property from her? We will of course pay fair market rates.

Thank you!

[Wayne Brooks]

@Dave Foster knows all about this and handles these all over. She has to buy in the same, or at least the same tax payer, name as she sells in. Any kind of real estate qualifies and it can be in any state.

[Bill B.]

You don't need the LLC. There's no tax or inheritance advantage.
Things will get “complicated” if you try to buy more than 3 replacement properties.

I don’t see a problem with her renting you a space in her commercial building as long as she charges you “fair market rent”  (then she could leave the property to you at her passing.)

@Dave Foster is the expert to engage before the sale occurs. 

[Dave Foster]

@Camy Kwok, When using a 1031 exchange the taxpayer for the old property has to be the same as the tax payer for the new property.  So it is important to match the "owner/taxpayer".  But any tax paying entity can do a 1031 exchange. So I would not recommend that she go out of her way now to change the ownership from what it is.

She can use the 1031 exchange to move from any type of investment real estate to any other type of investment real estate anywhere in the country.  So yes, she could do the 1031 exchange and buy commercial property somewhere else in the country for you to expand your business into.  I would recommend that you lease it from her at market rates in an arms length fashion.  If she wants to gift that back to you using annual gift limits that is fine.  But make the lease arms length.

And if liability protection is an issue then she could sell as herself and buy as a "disregarded entity" LLC. An LLC that has only one member and does not file it's own tax return. That may make inheritance a little easier. But if she holds on to the properties until death the heirs will still inherit at a stepped up basis - in other words any deferred tax goes away with her death.

I'll reach out via pm and colleague request to give you more information

[Camy Kwok]

Thank you for your clear response! 

[Ashish Acharya]

Your mother can use a 1031 exchange to reinvest the sale proceeds into other commercial or residential properties.

• LLC vs. Trust: For passing properties to you and your sister, a trust may be better for estate planning, while an LLC provides liability protection. Consult an estate planner to decide. Both can easily transfer to you guys when you inherit it.
• Multiple Properties: Depending on how you want to manage liability, you can hold all properties under one LLC or separate LLCs. One LLC is simpler, but separate LLCs can isolate risks.
• Different States: She can hold properties in Nevada and Washington under the same LLC, but might need to register as a foreign entity in one of the states.
• Renting to Family: She can buy a commercial property and rent it to your business or rent a residential property to you and your sister, as long as it's at fair market value.

[Gabriel Graumann]

@Camy Kwok Not sure how far along you are in this process already seeing how the initial post was 3 months ago. The question of "can you" related to all of the LLC and structure questions appear to have been well answered already. The questions I would be asking now are the "what" and "where" you should be investing with the 1031 exchange proceeds. When I'm working investors the first question I ask is: "What does your money need to do for you, how soon does it need to do it, and how involved do you want to be along the way? The answer to this question will take into account your mother's goals on how the money needs to work, transition plans in the future, risk tolerance, asset segment preferences (retail, industrial, MF, self-storage, etc.), and many other factors. Happy to connect with you to talk through some of these things if that is helpful for you or her.