Depreciation taxed avoidance ?

Question

Can depreciation taxes be avoided by performing a 1031 exchange?

Thank you,

Dave Foster · Answer

@Jerome Ramirez Guerrero, Yes, in a 1031 exchange all tax on gain and depreciation recapture is indefinitely deferred.  It will stay deferred as long as you own the property or sell it with another 1031.  And when you die your heirs get it with the basis stepped up.  So the tax disappears with your death as @Kevin Sobilo said.

And as of last spring we now have some good guidance from the IRS that even cost segregation and accelerated depreciation on real estate components themselves may also be deferred.  As long as the segregated elements are things normally associated with the structure.

Kevin Sobilo · Answer

@Jerome Ramirez Guerrero, depreciation is the deduction on your taxes each year for your property's theoretical loss in value. So, it is a tax savings.

However, this reduces your tax basis each year.

For example if you bought a property for $100k and depreciated $5k on your taxes over a couple years and then sold the property for $200k, your profit aka capital gain would be $105k because your tax basis would have been reduced from $100k to $95k based on the depreciation.

You can use a 1031 exchange to DEFER paying tax on that capital gain, but it is just kicking the can down the road, if you ever sell you will have to recapture all the capital gain. My intention is to do 1031 exchanges and never sell my investments. My heirs will not have to pay taxes on my gains!

Dave Foster · Answer

Account Closed, The calculation for your adjusted cost basis is - Purchase price + capital improvements - depreciation = adjusted cost basis.

So regardless if you sell as a capital gain or as ordinary income (your use of the word flip makes the "intent" question relevant for that), Those capitalized expenses will impact gain either way.  The real difference is if you were holding the property.  You would probably want to claim as much as current year expense as allowable so it didn't get caught up in basis.  Which you can only access when a sale occurs.

Account Closed · Answer

Thanks

Chris McCormack · Answer

@Dave Foster knows his stuff!

Jerome Ramirez Guerrero · Answer

Thank you @Kevin Sobilo and @Dave Foster for your valuable information!

Basit Siddiqi · Answer

A 1031, if done properly, will defer all taxes from the sale(Capital gains tax + tax on depreciation recapture)

Alex Olson · Answer

Avoiding taxes not an option by doing an exchange BUT you defer taxes until another time or until you die. The main benefit of a 1031 exchange is to either a) sell a property you are tired of or hate or don't want and get a better one or b) upgrade your portfolio by selling a duplex, fourplex, 10 units and buying even more units that cash flow even more. In both scenarios look at your return on equity. I can show you want this looks like.

Depreciation taxed avoidance ?

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