1031 Exchange for Joint Tenants

[Susan O.]

If you are holding a property as Joint tenants.  Can three owners sell their current property and 1031 exchange it as Joint Tenants into another property.

Do we need to change title to Tenants in Common or anything like that?

During the escrow is it possible to put it in a LLC... or would that trigger capital gains taxes? Or could this be done prior to selling? We still have not sold our downleg

I'm selling a California property and buying out of state.

[Account Closed]

@Dave Foster  can help you.

[Dave Foster]

@Account Closed   Yes, Joint tenants can 1031 either together or individually as long as the joint tenants are separate taxpayers.  In general Joint Tenancy simply means an equal undivided interest in the property whereas Tenants in Common refers to specific many times unequal undivided interest in the property.  Either way - tenants is tenants and yes you can 1031.  

However, if the Joint tenants are married filing a joint return then technically it is only one taxpayer and not two.  In that instance both of the Joint tenants own the entirety and are seen as only one taxpayer by the IRS.  The fact that you have three parties who are joint tenants is curious and may have to do with a community property or state issue (especially since you're in CA one of the last bastions of Community property).  But for federal 1031 purposes if there's three then there's got to be at least two different tax payers.  And all the tenants who are different taxpayers can do exchanges out of that property into properties they own individually.

The IRS frowns on changes of tax payer immediately prior to a sale.  So I would strongly discourage any change of ownership/reporting entities until the exchange is over.  This includes in the middle of the exchange.  Any reputable QI would not let you do that hopefully.  And you don't need to.

The way to accomplish what you're trying to do is to sell the property as it is titled now and begin one exchange for each tenant that wants to separate.  They will take title to the replacement property in their name alone because they are selling a property that they alone own (an undivided interest in the old property).

I've reached out to you via pm if you wish to discuss further.

[Susan O.]

It's three family members.  It's a bit odd but with Joint Tenants they have 'right of survival' so if one dies the others get it.

I wanted to be sure that we could all three do the 1031 exchange together then later down the road we could convert it to an LLC or to a normal TIC with 33% shares each?

Also could one of the 3 pay partial if it's Joint Tenants

It's not a TIC, someone suggested before that we first onvert to TIC then sell for 1031 exchange... but I could see why the IRS could frown on any changes to title right before. So is this what people do in Joint Tenancy usually?

[Dave Foster]

@Susan O., people in Joint tenancy are generally husband and wife filing a joint return. JTWROS is joint tenancy with rights of survivorship. And it's an assumption of equal ownership. That is an estate planning designation that is not relevant for your 1031. Tenancy is what you have whether it is JT, JTWROS, TIC (not the product, the ownership), or what have you. With multiple tenants you are all on the deed as tenants owning a % interest in a particular piece of real estate.

Any tenant has the option of doing a 1031, taking the cash, doing a partial 1031, or combining their 1031 with the other tenants.

While changes in entity immediately prior to a sale and 1031, it is a very common practice to complete the 1031 exchange with the purchase of the replacement property and then change the entity structure to reflect ongoing goals/strategy. Shifting from JT to TIC is not a problem. Contributions into an LLC are not generally taxable events when done after the 1031.

I'd want to take a look at the docs to be sure but I think you could even complete the 1031 with a change from JT to TIC at 33 1/3rd each (speaking to federal 1031 issues only - state issues can cloud things but not from a 1031 perspective.)

[Rahul Mepani]

@Dave Foster thanks for your responses. 

My scenario is similar in that I am JTWROS on a property with my father. However, he has never paid principal, interest, or taken a deduction on the property (he lent his name and credit so I could purchase the property when I was younger). Is it possible for me to exchange the relinquished property and take sole title of the replacement property in a 1031 or do we both need to exchange into the new property?

Thanks in advance!

[Dave Foster]

@Rahul Mepani, Your accountant would have to agree.  But It sounds like all of the activity of that property has been reported on your tax return the entire time.  That means that in reality you are the tax payer for the property.  And if you sell a property deeded to both of you (deeding is not a federal thing.  It's only a state convention), and purchase in your name only then you are not changing the tax payer because all activity of the property would still be reported on your personal tax return.

So that's a qualified yes from me.

[Hans Cooke]

Hi Dave.  I messaged you as well but it would be more beneficial to all for you to answer my question on this here as well.  :)

You seem quite knowledgeable in this area so big thanks for sharing with the community!

Here are my specifics:

Facts:

An inherited property is owned by 2 people as 'Joint Tenants' rather than 'Tenants in Common'. They are siblings and file taxes separately.

Joint Tenant 'A' has lived in the property for 9 years and claims as their primary residence for tax purposes.

Joint Tenant 'B' lives elsewhere and makes no claim for tax purposes against the property and never has.


Question:

When they sell the property, can Joint Tenant 'B' do a 1031 exchange with their half of the sale proceeds?

[Dave Foster]

@Hans Cooke, It might be possible.  1031 property is property that was purchased with the intent of holding for productive investment use.  You own the property as tenants so that part is easily enough separated.  

The only challenge I could see would be how you demonstrate your intent to hold for productive investment use.  If you have received any rent or income from your ownership then that would demonstrate intent.  If you were holding for appreciation but did not use the property for personal use at all that too could be used as demonstration of intent.

Your accountant will be the final decider.  But the length of time that's passed also could be a demonstration along with the other things.

[Hans Cooke]

@Dave Foster, Thanks much.

Never received and rental income for the property but have been holding for appreciation for 9 years.  Have never used for personal use.

We are looking to sell this spring/summer.  For an accountant, would a CPA be good enough or would a Tax Attorney be the way to go?

[Dave Foster]

@Hans Cooke A good CPA is probably fine for you. The mechanics of separating those interests isn't difficult.  And they'll have a good feel for demonstrating your intent so you can do the 1031.

[Hans Cooke]

Thanks much @Dave Foster !

[Hans Cooke]

Wanted to add something I just discovered that may scuttle the 1031 plan.  The inherited property is in California.  California has a "Claw Back" law in place that could very likely make a 1031 exchange harmful in the long run.  :(

Thoughts?

[Bill Exeter]

Hi @Hans Cooke, 

California has always taken the position that if you sell and 1031 Exchange California real property for out-of-state real property it will still be tax-deferred but they want their "fair share" if you should sell and cash out (pay the taxes) in the future.  

You will never pay the taxes to California if you continue to defer through a 1031 Exchange, and you will never pay the taxes if you pass on and your heirs receive a step-up in cost basis.  

You do have to report to California each year using California Franchise Tax Board Form 3840. 

[Hans Cooke]

Thanks Bill.  I guess a good CPA will be able to help me crunch numbers before sale to determine whether I can do a 1031 and if I even should based on investment plans.

Would you all recommend I find a good CPA in California near the property (Silicon Valley area) or would a local Texas CPA near where I live now suffice?

[Bill Exeter]

Hi @Hans Cooke, 

The 1031 Exchange is a Federal code, but California does have its own "special" twists.  I would personally look for a CPA that really understands investment real estate in Texas and then make sure they are comfortable with the California twists.  

[Hans Cooke]

Thanks Bill.  Good advice.  :)

[Kristen McShane]

Some great info and knowledgeable resources on this thread so hoping to reignite it and get some feedback on my situation :)

1031 exchange Co own multifamily with sister

I co own a multifamily with my sister. We bought in 2015 and have rented it out since. We are looking into selling, she wants to cash out her half of profits and pay the tax on the capital gains. I however would like to look into doing a 1031 exchange with my half of profits. Here are some rough numbers

Purchased house in 2015 for $525,000

Potentially sell house for $800,000

My accountant said he has our cost at $575,000 including cap improvements but have a depreciation of $88,000. Leaving our basis at $487,000.

Our potential profits if sold at $800,000 is $313,000 ($800,000-$487,000) and then divide that between my sister and I would leave us each with $156,500.

Is it true that in order to do a 1031 exchange I would need to identify a multifamily property worth at least $156,500? Or does the identified property need to be at least $800,000?

According to my accountant the property I plan to 1031 exchange into only needs to be at least $156,500. But I can't seem to validate that with my research.

Thank you all for your time and any expertise you can share :)

[Bill B.]

You need a new accountant yesterday. You need to buy at least what you sold. Since you’re selling half of an $800k property (assuming you net $800k after commissions and other selling costs.) then you need to buy a $400k+ property and you have to use every single dollar you get from the sale as a downpayment if you want to avoid all taxes. 

You could buy your sister out if you like the property and can’t find a good replacement. 

[Dave Foster]

@Kristen McShane,

If you and your sister are tenants in common then each of you own half of that property.  Your reinvestment target to defer all tax would be to purchase at least as much as your net sale (50% of the $800K) and to use all of the cash from that sale ($156K or 50% of the net cash after mortgage pay off if there is one.).

Your accountant is wrong.  But it's a difficult statute to understand.  They are right that you will never be taxed on your basis.  But when you do a 1031 the IRS says that any amount of cash you take or any amount you purchase less than your reinvestment requirement is considered to be profit first.  So while your accountant wants to say that you are first pulling out your basis.  the IRS chooses to disagree.  

So for you (if you are tenants in common with your sister) you can do a 1031 and complete defer all tax by purchasing at least as much as your half of the net sale and using all of your half of the net cash.