Anyone Completed a Reverse 1031 Exchange?

Question

I'm looking to buy a mid-size multifamily property (10-30 units) in the Atlanta metro and subsequently sell a single family rental property in Washington, DC.

I like the reverse 1031 exchange option because I wouldn't be under the gun to find the replacement building.

But so far I haven't found any lenders who are familiar with reverse 1031s.  I've called local banks and credit unions in the Atlanta MSA.

Has anyone completed a reverse 1031 where you were using financing (as opposed to buying the replacement property all cash)?

Thanks!

Dave Foster · Answer

@Kevin Sobilo, That's a great explanation of the process.  And the problem of course - Conventional lenders repackaging loans for sale on the secondary market will not lend in such a situation.  @Sheri L., you're on the right track.  It will need to e a local (very local) bank or private lender.  Self-directed IRA money is also a good spot to look.   Kevin's right, sometimes it's a conversation with the QI that can make the difference.  The lender needs to understand that You, and the subject property (and possibly the relinquished property can be cross collaterized as well) will be guaranteeing the loan.  But you will not be a member of the entity on title.

I would worry less about the terms.  They will be higher.  But they will be short term.  And what our clients many times realize is that while the reverse exchange is happening they are getting the income from both the relinquished and replacement properties.  That double dipping generally makes you more than the additional cost of a reverse.

And Kevin, in case it ever comes up, there's an easy answer for your double transfer situation.  When we do reverse exchanges for clients we will almost always transfer the membership of the entity to the exchanger rather than re-deed the property.  this avoids the property transfer tax and any 2nd closing costs.  And is allowable since the IRS views the ownership of a single member/single asset entity as the same as the real estate itself.

Sheri L. · Answer

Thanks for the helpful info, Dave.  It's good to know what a lender needs to understand in order to get comfortable with a reverse exchange as well as the other mechanics of a reverse exchange.

Alex Olson · Answer

I advise against competing a true reverse 1031 Exchange. It is too risky for the person/group holding the 1031 Exchange against deadlines. There are plenty of ways to generate enough time to identify and buy at least one property. I think as anyone would tell you on this forum it is very RARE that it would actually work out. Always looks good on paper but has a high failure rate.

Russell Brazil · Answer

Ive completed multiple reverse 1031 exchanges.

The lender has nothing to do with a reverse 1031 exchange. That's why they dont know what you're talking about.

Sheri L. · Answer

Thanks, Kevin.

My understanding is that many lenders (including Fannie, Freddie and CMBS) unfortunately won't agree to a reverse 1031 exchange.  I believe this is because the loan for the replacement property initially has to be made to the qualified intermediary's entity until the relinquished property is sold (which many lenders don't like even if you give them a personal guaranty). There may be other reasons, as well.

Our 1031 intermediary told us it would be preferable to work with a lender that already has experience with reverse 1031 exchanges.  They suggested we reach out to local banks and credit unions.

But to your point, our intermediary did say they're happy to talk with the underwriter to try to get them comfortable with a reverse 1031.

Kevin Sobilo · Answer

@Sheri L., I have never done an exchange like that but understand the concept. Why does it matter to the lender that you are eventually doing an exchange?

I would think the debt would be in your name or your entity's name, but that the title would initially go into the name of the entity controlled by the 1031 Intermediary. Then later on when you complete the exchange, the title passes to your own entity.

If the lender needs to understand the details, can't your 1031 Intermediary talk with them or their underwriter directly?

Also, check with your 1031 Intermediary about a reverse exchange. In some states like mine (PA), they will hit you with transfer tax on both stages of the process making it cost prohibitive to do.

Russell Brazil · Answer

Im unclear what they mean as the lender doesnt have anything to do with the 1031.

Unless you're trying to get a loan with no down payment and are trying to use the later funds from the sale to become the down payment. That's not possible.

To accomplish a reverse 1031 youll need to use 1 of 2 methods. Buy property with a down payment you have saved, then roll sale proceeds into paying down the mortgage balance. Or buy the new property with a short term seller finance with a balloon payment due, then do a cash out refi.

Henry Clark · Answer

Whatever you do talk with your intermediary to make sure it is allowed.

We did farm ground to farm ground.  When you go to sell your property make sure you only work with vetted buyers.  With short closing period.

Although your time frame to sell your property seems long it’s not.  Make sure everything in your sale and close does not get hung up.

Several approaches if your doing debt. Check with your intermediary if allowed.  Use your house as collateral with the bank you’re doing your 1031.   Or take a loan out using the 1031 house you will sell.  Try to do your purchase and your sale via the same bank.

Sheri L. · Answer

Good to know.  Two 1031 intermediaries told us that the lender for the replacement property can be one of the biggest issues in being able to do a reverse 1031.

It'd be great to get the name of your intermediary because perhaps they know how to navigate it better.  I'll message you.  Thanks.

Anyone Completed a Reverse 1031 Exchange?

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