All Forum Posts by: Daniel Osman

It sounds like you’ve done well with your properties, and I totally get why you’re looking for a way to keep the cash flow without the late-night maintenance calls.

Even though you’re skeptical about DSTs, they can be a solid option if you do the right due diligence and work with a trustworthy partner. Some have high fees and little flexibility, but others are structured more conservatively with steady cash flow and long-term tenants. The key is researching the sponsor and understanding the underlying properties. If you find one with strong tenants in a recession-resistant industry, it could be a truly passive way to keep your money working for you. Another advantage is that you can diversify by spreading your investment across multiple DSTs. If you’re looking for more insight into this space, @Jon Taylor always shares good perspectives on the DST market.

Another option is investing in triple net (NNN) lease properties, where tenants handle taxes, insurance, and maintenance. That means you own the property, collect rent, and don't have to worry about repairs or operational headaches. The key here is finding a tenant with strong financials and a long lease term to ensure stable income over time.

If you still like owning real estate but don’t want to deal with tenants directly, you could consider larger assets like multifamily or industrial properties and hire a professional management company. A good manager takes care of everything, so you still get rental income without having to be hands-on. The returns may not be as high as self-managed rentals, but it’s a great way to keep earning without the stress.

@Max Gallagher also mentioned the 721 UPREIT, which I’ve heard good things about. One thing to keep in mind, though, is that once you exchange your property for UPREIT operating partnership units, you can’t 1031 exchange out of them. The IRS considers these units as partnership interests, which don’t qualify for a 1031 exchange. So if your long-term goal is to keep deferring taxes, that’s something to factor into your decision.

@Khaled Seirafi How is your multi-use property used today? 

If you have already completed the exchange and are facing boot, a cost segregation study can help reduce your taxable income by increasing depreciation deductions, but it won't change the fact that boot is recognized.

As @Bill B.In a partial exchange the tax is based on the boot received, not prorated across the entire transaction.

Transferring your single-family home (SFH) to an LLC you own will not allow you to take advantage of the Section 121 exclusion, as it does not constitute a sale for tax purposes. The IRS treats single-member LLCs as disregarded entities, meaning they are not separate from you for federal tax purposes. Therefore, transferring the property to your own LLC would not trigger a sale or allow you to claim the Section 121 exclusion.

Engaging in transactions that lack economic substance or are primarily for tax avoidance purposes can attract IRS scrutiny. The IRS may challenge such transactions if they appear to be step transactions or lack a legitimate business purpose.

Here are some things you might be interested in / want to consider:

1. As @Andrew Kubik mentioned, since the property is now an investment property, you could consider a 1031 exchange to defer taxes. This allows you to reinvest the proceeds into a new investment property, deferring the capital gains tax. However, this does not eliminate the tax liability; it merely defers it.
2. If you're dead set on taking advantage of the Section 121 exclusion, you would need to sell the property to an unrelated third party in a legitimate sale. Since you converted the property to a rental you must recapture any depreciation taken during the rental period, which is not eligible for the exclusion and is taxed at a maximum rate of 25%.

@Mel Rosario You're smart to start looking for replacement properties now, being proactive is key!

As others have mentioned, you’ll need to have a Qualified Intermediary in place before selling your property. If you don’t, your exchange won’t qualify.

It’s very common to sell in one state and buy in another. The location of your QI isn’t as important as their experience since everything is handled by phone and email.

For cost, a typical 1031 exchange runs about $1,195, but as @Dave Foster mentioned, you can find a solid QI for under $1,000. While there are specific regulations for QIs, the IRS doesn’t require formal certifications. However, you can check out the Federation of Exchange Accommodators (FEA) it’s a trade group for 1031 professionals and a good place to start your search.

Hope that helps! Let me know if you have any other questions.

@Lexi Blocksom

I'm sorry to hear about the challenges you're facing with your property. It sounds like a tough situation.

Based on your post it sounds like you might sell at a loss, if you do go that route? While a 1031 exchange can defer the recognition of a loss, it's generally not the best option unless there are specific strategic reasons to do so. Given your current financial situation and the difficulties with the property, it might be more beneficial to recognize the loss now. This way, you can offset other income and potentially reduce your tax liability.

I recommend discussing your options with a tax professional who can provide personalized advice based on your overall financial picture. They can help you explore the best path forward and ensure you're making the most informed decision.

Wishing you the best of luck, and I hope things turn around for you soon!

@Jon Taylor provided a masterful breakdown. 

To add to it. Your capital gain is calculated as the amount realized from the sale minus your adjusted basis. Due to the accelerated depreciation you've taken, your adjusted basis will be lower than your original purchase price. In your situation, the primary concern is the potential tax impact from depreciation recapture, rather than capital gains. When you sell a property, the IRS requires you to recapture the depreciation you've taken, which is taxed at a higher rate than capital gains. This includes any accelerated depreciation from a cost segregation study.

Many investors are unaware of the depreciation recapture tax and only consider potential capital gains. I've included an example of the taxes you might incur in an image below.

A 1031 exchange can be beneficial in your case because it allows you to defer not only capital gains taxes but also the depreciation recapture tax, thus avoiding the immediate tax hit. The basis of the replacement property will be adjusted to reflect the deferred gain and depreciation recapture, meaning the deferred depreciation will continue to impact your tax situation in the future.

As always, consult with your CPA before making any decisions to ensure the best strategy for your specific situation.

We've facilitated over 7,000 exchanges. Happy to answer any questions or provide you with some resources. 

 @Natalie Kolodij in that case, definitely not advisable...

@Stacy Tring

@Natalie Kolodij is correct about the step transaction doctrine. The IRS could apply this doctrine if it appears that the series of transactions are structured primarily to achieve a specific tax outcome, such as avoiding taxes.

Regarding the 1031 exchange, while in-laws are not considered related parties, the transaction could still be scrutinized due to the complexity and nature of the other transactions involved. Selling a primary residence and then buying it back as part of a 1031 exchange could raise red flags with the IRS.

Your parents have a valuable opportunity to defer a significant amount of taxes by utilizing the $500,000 exclusion on their primary residence. They can then proceed with a 1031 exchange for their rental properties.

I understand their concern about the 180-day timeline. However, over 90% of our exchange clients successfully complete their exchanges. With proactive planning, they should be able to close on replacement properties within the 180-day period. If they encounter difficulties, they can consider Delaware Statutory Trusts (DSTs) as a backup option. DSTs can act as parking arrangements, providing more time, and they can later do another 1031 exchange out of the DST. You'd still want to evaluate the DST as an investment option of course.

Additionally, your parents might consider a reverse exchange, where they purchase the replacement property first and then sell the relinquished property. This approach gives them 180 days to sell, rather than to buy, which can alleviate some timing pressures.