Family Selling Ranch - How to avoid paying taxes on capital gains?

Question

Hello, my father is selling a ranch that he owns for 4 million and looking to downsize and purchase a lake property for about 1 million. So, this is putting him in the position to have to look at the possibility of doing a 1031 exchange on the 2.5 - 3.0 million that would otherwise be taxed at capital gain rates (he wants to avoid paying Uncle Sam at all costs). After looking into this a bit it seems like there is a rule of purchasing a "like" property to what was held? Is that so? Does that limit the purchase he could make? Ideally, he would roll the 2-3 million into a multifamily property to hold and cash flow from for retirement. The other questions would be is it possible to purchase multiple properties from the 2-3 million? Or does it have to be a single purchase?

Any insight from a tax pro and specifically someone who has gone through a 1031 exchange would be greatly appreciated!

Natalie Bender · Answer

@Cody Sims

A 1031 Exchange requires that your Dad, the taxpayer, purchase a Iike kind property. Since he is selling in the US, this can be any real property in the US that going to be held for business, investment, or trade use.

Yes, he can purchase multiple properties of different sorts (single family home, commercial building, DST, Mineral Rights, etc.)

One important thing to keep in mind: in order to defer 100% of the capital gains taxes, one would have to spend ALL the cash proceeds from the sale of the property and purchase equal to or greater than the net sales price. Net sales price is the sales price less closing costs like agent commission, escrow fees, transfer tax, and recording fees.

I would recommend talking to a Qualified Intermediary for specific advice. Your dad will need a QI in place to facilitate the 1031 exchange. Dave Foster is always a fantastic resource in this community. I would also recommend Excel1031, Weiming Peng, I have personally worked with him on many complicated exchanges.

Shoot me an email if you have any follow-up questions.

Lauren Moynihan · Answer

@Cody Sims - You've got good advice above. Your dad has lots of options. The one thing to consider is how much work your dad wants to do in the next phase of his life and what his financial goals are. Buying 5 single family homes is likely going to be a lot of work and there are other assets that cash flow better and are more liquid.He also has the ability to 1031 his equity into passive investments (which is a common strategy for property owners who are retiring).  The two main vehicles there are DSTs (mentioned above) or using a Tenant In Common deal that may have better returns and liquidity. The DST is typically a long term, illiquid investment and Tenant in Common can be shorter term, more liquid investment. Either way he could do really well with $3-4M to play with. I agree speaking with a QI like @Dave Foster to walk you through the "how" this works.

@Dave Fosterundefined

Ashish Acharya · Answer

Your father can use a 1031 exchange to defer capital gains taxes from selling his ranch, and the "like-kind" requirement is flexible, allowing him to invest in any real estate held for business or investment, such as multifamily properties. He can use the $2–3 million to purchase multiple properties, provided their combined value meets or exceeds the ranch's sale price. The key is to identify the new properties within 45 days and close them within 180 days. This strategy could help him boost retirement income while avoiding capital gains taxes, but consulting a tax professional or 1031 specialist is essential to navigate the process correctly.

Dave Foster · Answer

@Cody Sims, He can use the 1031 to purchase any type of investment real estate anywhere in the US.  It doesn't have to be one closing.  He only has to purchase at least as much the investment portion he sells. and use all of the proceeds associated with that investment portion.

Cody Sims · Answer

Wow! This is great information. Thanks David and Natalie for the response! Yes my dad does live at the property so the 500k would be a possibility for him and would be fantastic. So, since this is a ranch that he sells hunts under his LLC, the ranch can count toward being an investment property as well as a primary residence? I know the 1031 can only be used on investment properties but this is a unique property with it being a hunting ranch used as residence and business.

The other question I'd have is MF the only option here? Or could he purchase 4-5 single family residences for 300k a piece? Maybe new construction from a builder who is willing to sell 5 houses under one closing? Not sure if that's possible. Thanks!

Dave Foster · Answer

Thanks for that shout out @Natalie Bender.  @Cody Sims, your dad has some good options.  If he also lives on the ranch then a certain % of that property could be allocated as his primary residence.  When sold the percentage of profit allocated to the primary residence should be able to come to him tax free (the first $250K of profit if single or $500K if married.  And then the remaining percentage could be used in a 1031 exchange.

Replacement property for the sale can be any type of investment property anywhere in the US or Guam, the US Virgin Islands, or the Northern Marianas Islands.  And it can be any number of replacement properties.  As long as he purchases at least as much as the investment allocation from the sale.  And uses all of the proceeds allocated to the investment portion he will defer all tax.  So going from a ranch to MF of any type is perfectly fine.

In this scenario it would be possible for him to sell the ranch and take $250K or $500K of profit tax free.  And 1031 into one or more replacement properties.  And if one of the properties was a MF he may be able to immediately move into one of those units if the valuations for replacement are met.

Some tax free.  The rest tax deferred.  And a new place to live for free.  That's a pretty good scenario.

Family Selling Ranch - How to avoid paying taxes on capital gains?

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