Questions about BRRRR with a 1031 exchange

[Daniel Soovajian]

Hello,

Curious for BP's advice on my situation here...

I live in WA and have a condo in CT that's worth about $125,000. There's $32,000 left on that mortgage and I want to put the equity there to better use. I am exiting the CT market and plan to continue investing in TN for my next few properties. I haven't lived in that CT condo for 2 of the past 5 years so my plan was to sell the condo and purchase an investment property in TN via a 1031 exchange to defer the taxes and depreciation recapture expenses. 

I want to pursue the BRRRR strategy for my next investment property but am not sure how that would work with a 1031 exchange. Can I only use the funds from selling my CT condo on the down payment of the new investment property? Or is there a way to use the money from the 1031 exchange to cover my rehab expenses too? I don't think a 203k loan is an option since I won't be living at the new TN property, so what path forward allows me to make best use of the funds in the 1031?

Or could I put a big down payment (like 75%+) on the new TN investment property, complete the BRRRR with my own funds from outside the 1031, and then refinance to pull the $ out for the next BRRRR?

Last question: going forward, would these type of questions be best suited for a CPA with real estate experience or are they too technical on the 1031 side and I should consult with a 1031 facilitator for advice? 

Thank you!

[Dave Foster]

@Natalie Kolodij, and @Suzanne DiIorio, I know right?!  The improvement exchange can be huge powerful depending on how well your QI can help you take advantage of it.

the timeline usually runs something like this in a true improvement exchange where the sale by itself is enough to fund the purchase and improvements.

Day 1 - Sell the old property and proceeds go into the exchange account.  The 180 day exchange period starts.

Day 2 - 180 

1. The new property is identified, contracted, closed (or all three) using exchange proceeds.  Title is held by the QI as the Exchange Accommodating Title holder.  Since proceeds are all coming from the exchange account the client doesn't come out of pocket at all for either the purchase price or the improvement exchange fee @Suzanne DiIorio (this is the way we do it.  If you use a different QI there's no guarantee they'll do it this way).

2. (the second the new property is purchased by the EAT) exchange proceeds are used at the clients request to pay contractors for the improvements on the property.  

3. (prior to day 180 of the initial sale) all improvements must be complete and the title then goes to the client to finish their 1031 exchange. And actually we go further and transfer the membership interest of the EAT rather than transfer deed because it saves a new tax assessment, doc stamps and closing costs (again, not every QI will know to do this).

So the key to an improvement exchange like this Natalie is that it must be complete within the 180 days from when their old property sells.  And yes, the improvements are added to the depreciable basis - Woo Hoo!!

Yep Suzanne, these are pricey unfortunately.  But there's a whole heap of moving parts that have to be there for 1031 compliance as well as your protection.  $5000 seems a little high for a free and clear property and there may be some ways to shave more off by structuring it a little differently.  I'd have to talk to you some more to see what could be done.  What's nice is that we're able to structure the exchange fee from proceeds as well so it doesn't come out of your pocket.  So there's minimal impact to you.