1031 Exchange - How to split the funds

[Diana Medina]

Hello.

I’m closing on the sale of a property and have the option to roll over the gains into a 1031 exchange. I’ve identified a new investment and can use part of the funds to finance the new purchase. I can identify a second property to use the remainder of the funds. Questions:

1. Cash in now and pay the tax on the capital gain (held the property for 18 months, so the tax, I’m told, is lowered to 15%

2. Roll the funds over into 2 new properties, 1 flip, 1 rental and defer the tax bill again. It seems the deferral can be done indefinitely.

3. Is it possible to avoid the tax altogether on a 1031 exchange by owning the flip for 5 years and living in it for 2 years, if the capital gain is under $500k

Any RE Accountants available for a consultation?

Thanks for the feedback!

Diana

[Dave Foster]

@Diana Medina, If you do a 1031 and then purchase property intending to flip it you will not qualify to 1031 it again.  Property that qualifies for 1031 treatment is property that you purchase intending to hold for productive use.  If your primary intent is to sell then it does not qualify.  But that doesn't mean your not able to still get the benefit of tax deferral now.

1. Sell and do a partial 1031 and only purchase the one property.  You'll pay the tax on the money you don't reinvest but you'll still shelter the remainder in the one property.

2. Sell and do a complete 1031 but adjust your time horizon and intent on the "flip" property.  Buy it with the intent of holding.  Fix it up and put a rentor in it.  And then evaluate later to see if it becomes a good candidate for sale.  This is how 1031 investors continue to defer tax for decades.  They never buy flips.  They buy hold properties and periodically sell one.  And if you get impatient in the middle you can always do a refinance of it while you're waiting and use the refi to buy another property that you hold or flip.  

3.If you were to do a 1031 and purchase property and later convert into your primary residence that could indeed get you some but not complete tax deferral.  The requirements for a property that you convert after it has been a part of a 1031 are as follows:

     a. You must have owned the property for a minimum of 5 years.

     b. You must have lived in it for at least 2 out of the 5 years immediately prior to sale.

     c. You will get to take a % of your profit tax free as it is allocated between "qualified use" (as your primary residence) and non-qualified use (as an investment property.  so if you rented it for two years and then lived in it for three years you would be able to take 3/5ths of the profit tax free.

     d. You do have to recapture all depreciation.

So you don't get all the gain tax free but it can be a very helpful strategy.