1031 or not!

[Zachary Rosa]

Hi,

I am planning on a potential 1031 (very early stages) and would like to see what the reinvestment goal would be to maximize the befits of the 1031.

property I would like to exchange 

purchase price $515,000

sell price est: $725,000

current principle balance: $350,700

Interest rate 3.25

Current Mortage is $2300 and it rents for $4000. This was the first property I ever purchased so I have a lot of equity and I feel like it could be better used.

[Jon Taylor]

What is the tax basis?

When did you buy the property?

[Zachary Rosa]

2018

[Katie Ripp]

Hi Zachary,

You are right - that is a lot of equity! But man that interest rate is great. 

From a tax perspective, I am assuming you would like recognize $0 of the gain on your property in this potential 1031 exchange. Assuming that's true, I would recommend looking for a replacement property (or properties - you can purchase multiple in the exchange) with value of at least $725K (selling price).  To defer all of your gain, you'll want to trade up in value, replace all the debt (meaning new properties have at least $350,700 of debt), and not take any cash from the exchange (this is boot which = taxable gain).

As for replacement property, it just has to be real property - meaning it can be commercial, STR, land, etc!

Hope this helps!

[Bill B.]

You could also get a line of credit for about $150k (you should be able to borrow 75% of the value.)

The reason I suggest this is…

1) you save $40-$60k in selling costs. 
2) you have a lower blended interest rate (2/3rds at 3.25% and 1/3rd at 7 or 8% instead of the whole $500k at 7 or 8%) saving you another $1k/mo in interest. 
3) you only pay interest on that $150k when you actually use it, not from day 1  

Unless you hate this property, or want to buy something you can’t afford without selling, that would be my plan. The new property has to make $50k plus $12k/yr more than the existing property just to break even. That’s best case. 

[Dave Foster]

@Zachary Rosa. 

To see how much a 1031 exchange will benefit you in a sale you must first calculate the performance of your current property. I really starts with the "why" of selling. Compare that to the performance of a new property (with that equity unlocked but also with a different interest rate as @Katie Ripp said). Why do you want to sell?

The 1031 exchange will indefinitely defer all tax on profit and all depreciation recapture. Here's the key components to calculate your tax liability

Adjusted cost basis - Is the purchase price, plus capital improvements, minus depreciation.

Net Sale - Is the contract price, minus the closing costs and commissions.

adjust cost basis - net sale = net gain

Your gain is made up of profit and depreciation recapture. And you can use that to calculate your tax hit.

In order to defer all tax you must purchase at least as much investment real estate as your net sale using all of your net proceeds.

Net proceeds - Is the amount of cash that goes into your exchange account.

[Jon Taylor]

@Dave Foster is absolute right!

I have a calculator (semi-ugly but effective excel sheet) I use to look at the numbers on all 1031 exchanges I’m considering.

Let me know if you want help with the calculations