Can use 1031 to offset just part of the gains?

[Chris Laughary]

I’m finally selling our first rental property. It was originally our family home but we had to rent it out for 10 years until we had enough equity to make it worth selling.

 I’m finally selling our first rental property. It was originally our family home but we had to rent it out for 10 years until we had enough equity to make it worth selling.

Now it looks like we will have $75,000 profit. We cannot afford to invest 100% of that in another property so that means we’re not eligible to use a 1031 exchange, right?

[Dave Foster]

@Chris Laughary, not quite.  If your gain is $75K then park that in the back of your mind for a minute.  

The two requirements valuation wise in order to defer all tax in the 1031 are that you purchase at least as much as your net sale and that you use all of the proceeds in the next purchase.  

In a partial exchange you either take cash out or you take out less mortgage.  So assume for a minute that your net sale was $200K with a loan of $125K.  Your reinvestment requirements would be to purchase at least $200K in real estate and use all $75K in the next purchase.  

If you only wanted to buy for $100K then you would have to pay tax on the difference.  Since your entire gain is $75K and you're buying down by $100K there is no advantage to doing the 1031.

Say you were willing to buy for $200K but only wanted to put $40K down.  You are taking $35K in cash which would be considered to be boot.  You would pay tax on the $35K but would still shelter the other $40K of profit.

You don't have to just reinvest your profit.  If you want to do a 1031 you must purchase at least as much as you sell and use all the cash.