1031 Exchange - Lessons learned!

[Seetha G]

Hello All

Having completed a 1031 exchange there are some important lessons i learned. I haven't read about them anywhere so just wanted to share with you all so that you all could be cautious. 

1. 1031 company - Title company - Lender - Selling/Buying agent

You need to to ensure that all these entities communicate and know what they are dealing with. I had several issues due to communication disconnect. Just ensure that they keep talking and know their next steps and keep you in loop.

2. 1031 Boot

In case you need to use up all the funds in 1031 account state that very clearly to the lender and have your additional loan amount adjusted accordingly

3. Refund Items

Ensure any rental deposits and prorated rents for the replacement property are part of the transaction

4. Closure Document

Always review transaction summary before you go for closing. This will help identify any final mistakes

Appreciate if you could add value by posting lessons learned from your 1031 experience. 

Thanks!

[Bill Exeter]

Hi @Seetha G, 

One thing that we always recommend when administering 1031 Exchange transactions as a Qualified Intermediary is that the client should obtain an estimated settlement/closing statement a couple of days prior to closing in order to review the statement with their tax advisor and Qualified Intermediary for potential items that will cause small amounts of taxable boot.

There are essentially three "buckets" of closing costs. They are (1) selling/purchase expenses, (2) lender related charges, and (3) operating expenses. 

Selling expenses are permissible 1031 Exchange expenses, which means that net proceeds from the sale of the Relinquished Property can be used to pay routine selling/purchase expenses such as real estate agents commissions, escrow closing fees/attorney closing fees, title insurance costs for owners policies (not lenders policies), documentary transfer taxes, recording fees, 1031 Exchange fees, etc.

Lender related charges and operating expenses are not permissible 1031 Exchange expenses, which means that if net proceeds from the sale of the Relinquished Property are used to pay for any lender related charges such as loan pay off fees or loan origination fees/points or operating expenses such as prorated rents, prorated property taxes, HOA fees, etc., the amounts used toward these items will be considered taxable boot.

Those items that will result in taxable boot can be netted together and the client can contribute out-of-pocket funds to cover the net difference in order to prevent the small amount of taxable boot.

Many clients choose not to add cash and merely accept the fact that they will have a small amount of taxable boot, but for those who wish to avoid any tax consequences, they should review the estimated closing statement with their tax advisor and Qualified Intermediary prior to closing.