Real World 1031 exchange numbers

[Charlie Gruber]

I’m looking to sell a property and 1031 into another property and want to make sure I understand how some "real world" number may work.  Let me know if below looks correct:

• 1)The relinquish property (house I’m selling) is worth about $300k and have about $170k loan balance.Thus after realtor fees and other expenses figure I’ll have around $110k to use in an exchange.
• 2)I know my replacement property needs to be of equal or greater value but would like help to define this.Does this mean replacement property/properties need to be greater than sale price of the relinquished property or just greater than the profit?So in my above example does replacement need to me greater than the $300k sales price or the $110k profit?
• 3)Finally, want to make sure I understand the “boot” concept as it relates to mortgage debt.My basic understanding is that replacement mortgage must be equal or greater than mortgage on relinquished property.Thus in earlier example I mentioned the relinquished property has a loan of around $170K.So does this mean that even if I used all $110k profit in next purchase and purchased something over relinquished property sale price of $300k I could still get hit with tax if new mortgage less than $170K?
  For example, purchase something for $310k then subtract 110k profit from relinquished property and then minus another $35k I put into deal so net new mortgage $165k.In this example would I pay capital gains on the $5k difference between old mortgage amount of $170k and the new mortgage amount of $165k?

Thanks in advance!
-Charlie

[Clayton Mobley]

@Charlie Gruber this is one place 1031s can be a bit tricky. I'll ask @Bill Exeter to weigh in here as the expert, but this is my understanding:

To defer ALL taxation with a 1031 exchange, you must purchase a property/properties that equal or exceed the sale price of your relinquished property. In your example, you need to purchase one or more properties with a total value of $300k.

Any amount of cash profit must be rolled into the new properties. However, you don't necessarily have to have $170k in debt just because that's what you have on the current prop. If you decide to pay all cash for the $300k new property, you can do that. If you want to take out just a $100k loan and finance the other $200k with cash, you can do that, too.

What you can't do is use your cash profit for a new property and use the remaining proceeds from the sale to pay off your mortgage - you can't sell a $300k property (with $170k of debt) and exchange it for a $110k property with zero debt. Well, you can, but you'll be taxed on that $170k of boot. Basically, if you come out the other side of a 1031 with a new property, no new cash, but less debt than you had before, then you're going to be taxed just like you would if you took some of the profit as cash. 

I think the misconception that you have to have the same amount of debt comes from people assuming that an exchanger will not put in any additional equity, meaning they'd have to take out a loan of the same size (or larger) to meet the 'equal to or greater than' value requirement. If you have additional cash to put in, you don't need to have debt at all, as long as you're not coming out ahead in either direction (less debt or more cash in your pocket).

Here's a quick explanation: http://www.exeter1031.com/article_1031_exchanges_d...

I also like how this site worded it - you have to replace the 'value' of any debt you have in the relinquished property, the IRS doesn't care how you replace it (debt or equity). https://www.ipx1031.com/replacing-debt-in-a-1031-e...

Hope that helps - but, Bill, please correct me if I'm wrong!

Best of luck,

Clayton