1031 Exchange, Buying & Financing New Properties

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1031 Exchange, Buying & Financing New Properties

Martin T.
Investor · Durham, NC · Member since 2016 · 14 posts · 6 votes

I have a property in New York that I'm putting on the market next week, which should net about $140k in profit after selling it, and I'm planning on rolling that into 2 new property purchases in North Carolina.  This will be my first 1031 exchange and I had a couple of questions for those who have done this before:

- My title exchange company said that for the 1031 exchange, I need to also roll in the money I originally put down on this property (when I purchased it as a primary residence).  That seemed odd to me, since I wouldn't have to pay taxes on that money, if I was NOT doing a 1031 exchange.  If I do need to include that money, I've got $170k in value I need to roll over.  Any insight?

- Since I already own 1 other rental property that I purchased last year (not including the one I'm selling), I'm concerned about getting financing on 2 other properties, which could total up to $700k in value if I was putting 20% down (the $140k).   Has anyone else run into this?  Last year when I did this, I got approved, but after going through some hoops.  My debt load is next to nothing (1 other small rental property), and my income is high, but I'd be purchasing 2 rental properties in the same year this time.

- The 45 day timeline to identify up to 3 properties, 1 of which I absolutely must purchase (required by the 1031 exchange), is obviously a very short timeline.  In others experience, what's the best way to work in that timeline - have the properties ready to move on by the time the other sells, or start even sooner?  I can't quite grasp how challenging that part will or won't be.

- As a last ditch scenario, if I can only secure 1 property for whatever reason, I'd put the entire $140k into it, and get a mortgage on the rest (likely around $200k on the mortgage). Then is it acceptable to get a HELOC to purchase another property later? Or is that not acceptable with 1031 exchange criteria?

Thanks all, really appreciate all your insight!

Martin

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Henri Meli
Investor · Morrisville, NC · Member since 2012 · 1k+ posts · 673 votes
8y

@Martin T. , To answer one of your questions: 
Yes, the 45 days is quite short and time really flies. You should probably start by identifying the target property and have it under contract (or close enough) before you sell the first one. Scrambling to find the target property after selling yours can force you to take bad deals. You don't want to be in that position. 

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  • Johnny Borrelli
    Financial Advisor · Los Angeles, CA · Member since 2018 · 77 posts · 7 votes
    8y

    @Martin T. I know of a couple of solutions.  You can list several properties as a 1031 backup if I am not mistaken.  There are several companies that make direct investments in real estate, and allow you, as a shareholder, to participate, and collect a monthly dividend.  These are private placements, so there are qualifications that you must have but,  they will take your "leftovers" so to speak, so that you do not have to worry about a timeline and possibly be liable to tax.  The investments are in prime commercial real estate, and usually pay around 5-6%.  

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  • Brandon M.
    Agent / Investor · Clearwater, FL · Member since 2014 · 573 posts · 281 votes
    8y
    One possible option Johnny is referring to is a DST. Many people use them either as a last minute fallback when they can’t purchase any of the properties they chose during their 45 day period, or as their last 1031 exchange as they are a completely passive income generator. Mailbox money so to speak.There are some restrictions, such as being an accredited investor, minimum purchase amounts ($100k for 1031), and illiquidity, but they do purchase higher class assets. Multi-family, self storage, healthcare facilities, etc. You have to have a Series 7 to sell them (which I do) but I could show you one we have currently just so you could get an idea of the structure. If interested in that send me a PM.
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  • Ian IppolitoBusiness Member
    Investor · Tampa, FL · Member since 2015 · 1k+ posts · 1k+ votes
    8y

    A 1031 “backup” as others have discussed above, is a great idea to get you something breathing room. 

    One thing to note is that most DST's are loaded with a ton of extra fees (sales commissions, etc), so they may not make such a great first option. But when you are rolling over considerable assets and your tax liability would be really high, it can still be worth it. At $140k it may not pencil out, so I would just recommend to do the math in advance and find out for sure.

    Another option is to make your backup plan to do an upreit ( tax-free exchange) into a fund like Broadstone Net lease, which doesn’t charge outrageous fees. 

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  • Henri Meli
    Investor · Morrisville, NC · Member since 2012 · 1k+ posts · 673 votes
    8y

    @Martin T. , To answer one of your questions: 
    Yes, the 45 days is quite short and time really flies. You should probably start by identifying the target property and have it under contract (or close enough) before you sell the first one. Scrambling to find the target property after selling yours can force you to take bad deals. You don't want to be in that position. 

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  • Dave FosterBusiness Member
    Qualified Intermediary for 1031 Exchanges · St. Petersburg, FL · Member since 2013 · 9k+ posts · 9k+ votes
    8y

    @Martin T.,  You asked some specific questions about a 1031 exchange from a property you own now into two new properties.  That is called a diversification exchange and is a great way to expand your portfolio.  You can allocate your cash proceeds however you want into the two new properties so you could purchase one for minimal cash/maximum leverage and purchase the other one for cash.  Of you could allocate the cash between two down payments.  Whatever works with your lender.  They will source the funds in your exchange account.  And typically lenders like working with 1031 investors because of the static nature of their exchange proceeds.  

    It is true that if you were to sell your property tomorrow and not do a 1031 exchange you would not pay tax on your original down payment.  But when you do a 1031 the IRS is requiring you to leave your down payment in the deal and they are leaving their tax in the deal.  The way they insure this is by requiring you to purchase at least as much as you sell and to use all of the proceeds form the sale in the next purchases if you want to defer all tax.  If you want to take cash out you can.  But you will pay tax on it.  You can say you are taking only your original down payment but the IRS interprets that you are taking profit first.  They have nuclear weapons they win the argument.

    The 45 day deadline is for real.  But it is usually more of a psychological hurdle than anything.  You have 45 days from the date of purchase to identify potentials.  That's a month and a half.  I'd highly recommend that you get under contract during that time.  If you want you can also go into contract before your old property sells as long as the close date for the purchase is after the close date for the sale.

    Use contingencies.  Sometimes it's hard to get a contingency from a seller in a sellers market.  But don't forget you're a seller as well and you can always require an extended closing date on the property you are selling or make the sale contingent on finding a good replacement property.

    You could also look at simplifying your exchange and buying one replacement property that could absorb your entire exchange.  Then once the 1031 is complete refi and buy your second property - exactly as you contemplated.

    Your scenario looks pretty good.

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